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Issue #1716      January 27, 2016

TPP – a threat to financial and economic stability

By obliging signatory states to open up and deregulate their financial sectors, the TPP will increase the risk of another financial crisis like the 2007-08 global crisis, warns a US-based public interest advocacy group.

Although the Trans Pacific Partnership (TPP) is the first US trade deal to be negotiated since the 2008 financial crisis that spurred a global recession, it would impose on TPP signatory countries the pre-crisis model of extreme financial deregulation that is widely understood to have spurred the crisis.

After nearly six years of negotiations under conditions of extreme secrecy, the Obama administration released the text of the controversial deal after it has been finalised and it is too late to make any needed changes. The financial services and investment chapters of the TPP provide stark warnings about the dangers of “trade” negotiations occurring without press, public or policymaker oversight.

Unlike past pacts, the TPP would empower financial firms to use extrajudicial tribunals to challenge financial stability measures that do not conform to their “expectations”. The TPP’s financial services chapter “reads in” investment chapter provisions that would grant multinational banks and other foreign financial service firms expansive new substantive and procedural rights and privileges not available to US firms under domestic law to attack our financial stability measures.

For the first time in any US trade pact, the TPP will grant foreign firms new rights to attack US financial regulatory policies in extrajudicial investor-state dispute settlement (ISDS) tribunals using the broadest claim: the guaranteed “minimum standard of treatment” (MST) for foreign investors. MST is the basis for almost all successful ISDS challenges of government policies under existing pacts. Past US trade pacts allowed ISDS challenges of financial regulatory policies, but limited the substantive investor rights that applied to the financial services chapter, and thus the basis for such attacks. The TPP explicitly grants foreign investors new rights (Article 11.2.2) to launch attacks on financial policies using the extremely elastic MST standard that ISDS tribunals regularly interpret to require compensation if a change in policy undermines an investor’s expectations.

Despite the pivotal role that new financial products, such as toxic derivatives, played in fuelling the financial crisis, the TPP would impose obligations on TPP countries to allow new financial products and services to enter their economies if permitted in other TPP countries (Article 11.7).

The TPP constrains signatory governments’ ability to ban risky financial products, including those not yet invented, via rules designating a regulatory ban to be a “zero quota” limiting market access and thus prohibited (Article 11.5). TPP rules also would jeopardise efforts to keep banks from becoming “too big to fail” and to firewall the spread of risk between financial activities.

The TPP would be the first US pact to empower some of the world’s largest financial firms to launch ISDS claims against US financial policies. The TPP would greatly expand US liability for ISDS attacks because currently these firms cannot resort to extrajudicial tribunals to demand taxpayer compensation for US financial regulations.

Among the top banks in the world based in TPP countries are: Mitsubishi UFJ, Mizuho, ANZ, Commonwealth Bank of Australia, Westpac, National Australia Bank, Bank of Tokyo, Sumitomo, Royal Bank of Canada, and Toronto Dominion. These multinational firms own dozens of subsidiaries across the United States, any one of which could serve as the basis for an ISDS challenge against US financial regulations if the TPP were to take effect.

Under current US pacts, none of the world’s 30 largest banks may bypass domestic courts, go before extrajudicial tribunals of three private lawyers, and demand taxpayer compensation for US financial policies. The TPP would allow foreign firms to challenge policies that apply to domestic and foreign firms alike and that have been reviewed and affirmed by US courts.

And not only foreign financial firms but foreign subsidiaries of US firms operating in TPP nations could demand taxpayer compensation for financial regulations and government regulatory actions. The TPP would newly empower US banks, four of which rank among the world’s 30 largest, to launch ISDS claims against domestic financial regulations in TPP countries that do not already have an ISDS-enforced pact with the United States (Australia, Brunei, Japan, Malaysia, New Zealand and Vietnam).

A provision touted as a “prudential filter” would fail to effectively safeguard financial policies from ISDS challenges under the TPP.

The provision (Article 11.11.1) states that if a foreign investor uses ISDS to challenge a government’s financial measure, and if the government invokes a highly contested provision for defending prudential measures, financial authorities from the challenged government and from the firm’s home government, rather than the ISDS tribunal, will aim to determine whether the prudential defence applies (Article 11.22). But if those officials cannot agree within 120 days, meaning officials from the challenging corporation’s home country opt not to shut down their investor’s claims, the decision goes back to the ISDS tribunal.

The use of capital controls and other macro-prudential financial policies that regulate capital flows to promote financial stability are forbidden and subject to compensation demands by foreign corporations. Like past US free trade agreements, the TPP text requires that governments “shall permit all transfers relating to a covered investment to be made freely and without delay into and out of its territory” (Article 9.8). This obligation restricts the use of capital controls or financial transaction taxes, even as the International Monetary Fund, many prominent economists and world leaders have shifted from opposing capital controls to endorsing them as a tool for preventing or mitigating financial crises.

Strong concerns about the TPP’s ban on the use of such policies resulted in inclusion of a new “temporary safeguard” provision (Article 29.3) despite years of US opposition. But the language that was ultimately agreed would not adequately protect governments’ ability to regulate speculative, destabilising capital flows.

The safeguard is subject to a litany of constraining conditions, largely replicating the narrow terms in Article XII (‘Restrictions to Safeguard the Balance of Payments’) of the World Trade Organisation (WTO)’s General Agreement on Trade in Services (GATS). But the TPP provision adds two further constraints: capital controls are subject to ISDS challenges as indirect expropriations.

Thus, while the temporary safeguard may permit a TPP country to enact a capital control for a limited amount of time, the country may also be required to compensate a foreign investor if the capital control results in a significant reduction in the value of an investment. There is no comparable obligation to compensate private investors in the GATS. And in the TPP capital controls “shall not apply to payments or transfers relating to foreign direct investment”, a significant limitation. As a result, Chile, which has in place policies that allow long-term limits on capital flows, had to negotiate for a separate carve-out of its policies so as to be able to preserve them.

The US, unlike most other TPP countries, has chosen to subject sovereign debt restructuring to ISDS challenges. An annex in the investment chapter seeks to ensure that disputes related to sovereign debt and sovereign debt restructuring are not subject to the full range of investment chapter disciplines (Annex 9-G).

But a footnote states that the partial safeguards for sovereign debt restructuring “do not apply to Singapore or the United States”. That is, were Singapore or the United States to negotiate a restructuring of its sovereign debt that applied equally to domestic and foreign investors, foreign investors alone would be empowered under the TPP to challenge the non-discriminatory restructuring before an ISDS tribunal, claiming violations of any of the broad substantive foreign investor rights provided by the TPP investment chapter.

These deregulatory rules were written under the advisement of Wall Street firms before the financial crisis. Some are included in one of the most extreme WTO agreements to which most TPP nations are not signatories. Rather than update these terms to reflect the post-crisis consensus on the importance of robust financial regulation, the TPP would expose an even wider array of financial stability measures to challenge as violations of the 1990s-era rules.

With few exceptions, TPP governments have bound existing and future financial policies to these deregulatory rules, curtailing their policy space to respond to emerging financial products and risks if the deal takes effect.

The above is extracted from the “Initial Analysis of Key TPP Chapters” document published on the Public Citizen website (www.citizen.org).

Third World Resurgence

Next article – Reject the TPP in the public interest

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