USMCA Eliminates Investor-State Arbitration for Canada – What It Means for Investors
October 4, 2018
On September 30, 2018, Canada, Mexico and the United States announced that they had reached an agreement on a new treaty, the United States-Mexico-Canada Agreement (USMCA), which will replace the North American Free Trade Agreement (NAFTA) that has been in force since 1994.
While the trade provisions of the USMCA have been garnering the most attention, the USMCA contains notable changes for Canadian investors in the United States and United States investors in Canada. For more information about the trade provisions of the USMCA, please see our October 2018 Blakes Bulletin: The Ins and Outs of Canada’s New Trade Agreement and NAFTA Replacement, the USMCA.
The availability of investor-state arbitration in the investment protection chapter of the USMCA is limited to Mexico and the United States, subject to a three-year phase-out period once the USMCA comes into force for investors to commence claims for “legacy” investments under NAFTA Chapter 11.
INVESTOR-STATE ARBITRATION LIMITED TO U.S. AND MEXICO
Both Chapter 11 of the current NAFTA and Chapter 14 of the draft proposed USMCA accord certain protections to covered investments of investors from one NAFTA or USMCA party in the territory of another NAFTA or USMCA party.
Under Chapter 11 of NAFTA, investors may commence arbitration proceedings against the host state, where the host state has violated the investment protection obligations agreed to in Chapter 11, including fair and equitable treatment, full protection and security, national treatment, and most-favoured nation treatment. The USMCA provides much more limited recourse to arbitration, and no independent arbitration right at all in the case of investors from, or in, Canada.
Mexican and U.S. investors will continue to have recourse to investor-state arbitration under USMCA Chapter 14 (Annex 14-D), though in a diluted fashion. The new chapter significantly reduces the scope of arbitration available for investments that are not “covered government contracts”, defined in the agreement in relation to certain economic sectors, reducing the guaranteed standard of treatment and requiring that the investor first seek recourse in domestic courts.
There have been no official statements explaining why Canada is not a part of the investor-state dispute arbitration provisions in the USMCA. However, Canada has been subject to more investor-state claims under NAFTA Chapter 11 than either the U.S. or Mexico and Canada’s Chief Negotiator, Minister of Foreign Affairs Chrystia Freeland, had previously voiced a desire to reform the investor-dispute settlement process to expressly ensure that governments have the ability to regulate in the public interest.
That Canada is not a party to the investor-state arbitration annex will chiefly impact U.S. investors in Canada and Canadian investors in the U.S. Mexican investors in Canada and Canadian investors in Mexico may still have recourse to investor-state arbitration provisions under the Comprehensive and Progressive Trans-Pacific Partnership (CPTPP) treaty when, and if, it comes into force. Both Mexico and Canada are parties to the CPTPP and have each consented to investor-state arbitration in that agreement. The U.S., however, withdrew from the original TPP agreement in early 2017.
Investors from all three NAFTA and USMCA state-parties have three years to commence arbitration proceedings against a host state under NAFTA Chapter 11 in respect of legacy investments, being investments established or acquired between January 1, 1994 and the termination of NAFTA, and in existence at the time that the USMCA comes into force. That said, such clams will remain subject to each of the three-year time bar, six-month “cooling off” period and 90-day notice period included in NAFTA Chapter 11. Beyond these sunset provisions, the recourse of U.S. investors in Canada and Canadian investors in the U.S. will be to Canadian or U.S. courts, respectively. It remains to be seen whether investors in Canada will be able to bring private claims against the government for breaches of the treaty in Canadian courts (which will depend on Canada’s legislation implementing the treaty), and the extent of remedies available where, for example, there is a conflict between Canada’s obligations under the treaty and domestic law.
Canada remains party to the state-to-state arbitration provisions, now at USMCA Chapter 31. Under this Chapter, Canada, the U.S., or Mexico may bring a claim against one of the other USMCA parties on behalf of one of its investors, provided the claim falls under the scope of Chapter 31. The degree to which this state-to-state mechanism is employed will therefore be interesting to watch, particularly where a Canadian investor in the U.S. or Mexico, or a U.S. or Mexican investor in Canada, encounters governmental interference in violation of the treaty. Investor-state arbitration was intended to replace state-to-state dispute resolution, including to depoliticize investment disputes, as home states often did not have either the resources or inclination to assume such an advocacy role, and to provide meaningful protection to small and medium-sized businesses (whose cause a home state was even less likely to embrace).
Once the three-year period to bring claims under NAFTA Chapter 11 expires, the loss of investor-state arbitration rights is something that U.S. companies investing in Canada and Canadian companies investing in the U.S. will have to consider when implementing their investment strategy, including where the investment is in a highly-politicized sector of the economy. Investors dealing directly with a Canadian government, for example, may seek to protect themselves through more robust and customized governing law and dispute resolution clauses, which if properly drafted, can provide many of the same protections included in NAFTA Chapter 11. Alternatively, investors may consider structuring investments through subsidiaries in states with which Canada has investment treaties that still provide recourse to investor-state arbitration.
It will also be interesting to see whether Canada revisits its position in the future, and if so, whether Chapter 14 and its annexes (as currently drafted) are ever amended to allow Canada to become party to the investor-state arbitration provisions. At the very least, the text of the current draft USMCA does not appear to preclude this possibility.
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