The New EU-Mercosur Free Trade Agreement: Where Does Investment Dispute Settlement Stand?

After 20 years of negotiations, Mercosur [1] and the European Union (EU) reached a comprehensive trade agreement that will cover a population of 780 million [2] and encompass 25% of the world’s GDP [3]. Such an agreement is set to increase trade and investment flows to the State Parties [4]. This article sets out the key elements of the EU-Mercosur Free Trade Agreement (EU-Mercosur FTA) and will identify potential pitfalls for arbitrations arising from foreign direct investment in the Mercosur region.

 

Executive Summary

The European Union and Mercosur reached on the 28th of June 2019 a comprehensive trade agreement, part of a wider Association Agreement between the two regions, which is set to consolidate a strategic political and economic partnership that aims for opportunities for sustainable growth on both sides.

Both Parties will now perform a legal revision of the agreed text [5]to launch the final version of the Association Agreement, including all its trade aspects. The Commission will then translate it into all official EU languages and submit the Association Agreement to EU Member States and the European Parliament for approval. A similar process will be performed within the Mercosur bloc. Whilst the EU has taken, on average, seven months to three years to sign similar trade agreements as this with Mercosur, the average time taken to do so among the Mercosur countries ranges from two to four years. There is no deadline for the approvals.

To the countries that are members of the Mercosur, the Agreement foresees a period of over a decade for tariffs reduction on products that are sensitive to the competition of the European industry. From the European side, most of the import duty will be zeroed as soon as the treaty enters into force.

The Agreement foresees an elimination of customs duties on 91% of goods that EU companies export to Mercosur, such as cars and car parts, machinery, chemicals, and pharmaceuticals. The Agreement will, additionally, progressively eliminate duties on EU food and drink exports, such as wine, whiskey, and soft drinks. Import duties from Mercosur products will be eliminated in 92% of the goods.

The Provisional Trade Agreement encompasses a dispute settlement chapter establishing a mechanism for the purposes of resolving any disputes between the Parties concerning the interpretation or application of the trade part of the agreement.

In terms of investment, the most recently released version of the FTA has no investment chapter. Therefore, European investors planning to place investments in the Mercosur region should be cautious regarding the differences in investment protection and in investment dispute settlement between European and Latin American practices in order to avoid unwanted surprises in arbitrations arising from their investments.

 

General Overview

In the words of the European Commission, the EU-Mercosur Agreement on trade is „a political agreement for an ambitious, balanced and comprehensive trade agreement“. The new trade framework is set to consolidate a strategic political and economic partnership and create significant opportunities for sustainable growth on both sides while respecting the environment and preserving interests of EU consumers and sensitive economic sectors.

Apart from the elimination of customs duties mentioned in the previous section (which is already a big step for the countries of the Mercosur region, since their economies are mostly characterized by closed markets with high tariff and non-tariff barriers up to the limit of protectionism conferred by the respective WTO agreements), the agreement foresees easier customs and compliance procedures, facilitation of trade in services and establishment,  and access to public contracts in addition to safeguard Small and Medium-Sized Enterprises‘ interests.

All of the above could mean an acceleration of the economies involved in the agreement, which would certainly lead to an increase in Foreign Direct Investments (FDI). An investor investing in the Mercosur countries should be vigilant for the rules for settling disputes arising from an investment, as these might be different from the ones observed in the previous Free Trade Agreements signed by the EU, namely CETA and the EU-Vietnam Agreement that provide for a specific chapter on the settling of investment disputes.

 

International Investment Dispute Settlement under scrutiny

The Investor-State Dispute Settlement (ISDS) system, the arbitration mechanism under the International Investment Law (IIL) regime, is constantly under scrutiny, as this is a much-criticized mechanism amongst countries.

Dissatisfaction towards the ISDS system encompasses a wide range of elements touching upon its own structure. First, states perceive the system as a biased one as classical safeguards regarding judicial independence applicable to courts are not incorporated in arbitral clauses. Second, there is the criticism towards procedural fairness. Investor-state dispute settlement is perceived unfair in that only the state responding to a foreign investor’s claim can access the system, that is to say, it does not allow a third party whose rights or interests are affected by the proceedings to have standing in the process. Third, states argue an unbalance between rights and responsibilities of investors, claiming that the system lacks actionable responsibilities for foreign investors. Finally, concerns have arisen regarding the lack of respect for state sovereignty. In ISDS, as opposed to a standard feature of international law, foreign investors are not required to seek a resolution in a country’s courts before bringing an international claim.

Aiming at solving the aforementioned issues, more recently, the United Nations Commission on International Trade Law (UNCITRAL) has established a Working Group [6] to discuss investor-state dispute settlement reforms. In this regard, the EU’s proposal of a Multilateral Investment Court [7], built on its „mega-regional“practice [8] differs in a great amount from the Mercosur countries‘ trend in reforms as observed in their recent investment agreement: the Mercosur Protocol (2017) [9]. These differences, which will be assessed in the next subsections, might impact investment arbitration under the EU-Mercosur Agreement.

 

EU’s proposal: establishing a permanent multilateral investment court

The European Union’s proposal for a permanent investment court in substitution to the ISDS system is based on the arguments that this would enhance the predictability and consistency of decisions and ensure their correctness, eliminate the ethical concerns of the current system, and effectively address the problems of excessive costs and duration.

Such a proposal is based on the EU’s practice under agreements such as the Comprehensive Economic and Trade Agreement (CETA), undertaken with Canada in 2017. Under CETA, although in more restrictive wording, investors are accorded with standards of treatment commonly found under Bilateral Investment Treaties (BITs), such as national treatment (NT), most-favored-nation treatment (MFN), fair and equitable treatment (FET) and protection against direct and indirect expropriation.

In terms of dispute settlement, under the EU-Mercosur Agreement, investors have the possibility of claiming the aforementioned standards of treatment before a Tribunal composed of five members of a Member State of the European Union, five nationals of Canada and five nationals of third countries. The investors additionally have the possibility of appealing rendered awards to the Appellate Tribunal.

 

Mercosur’s Practice: State-State Arbitration

The Mercosur countries, by turn, appear to have a different approach to ISDS reforms, as illustrated by the recent Mercosur Protocol on Investment Cooperation and Facilitation (2017).

Under the Mercosur Protocol, investors are afforded with rights such as non-discrimination (which is similar to MFN and NT treatment), and against direct expropriation. The most claimed right in Investor-State arbitrations, the FET, and protection against indirect expropriation are not afforded under the Protocol. Additionally, investors have obligations regarding domestic laws of the host country and corporate social responsibility. Thus, investors from the Member States of the Mercosur are less protected than those under CETA, in addition to having more obligations towards the host country.

In terms of dispute settlement, the Protocol only provides for State-State Dispute Settlement. Thus, an investor whose rights were violated will have to rely on his or her country to a make a claim on their behalf. This limits the possibility of investors to directly make claims in their interest. Additionally, the Mercosur Protocol does not provide investors with grounds of appeal.

Although the Mercosur Protocol only applies to investors from the Member States of the Mercosur, it reflects the practices of Argentina, Brazil, Paraguay and Uruguay towards reforms to the IIL regime and thus, it should be regarded by foreign investors as signaling how dispute settlements arising from foreign direct investments in the region might be in the future.

 

Investment Dispute Settlement under the EU-Mercosur Agreement

In contrast with the Comprehensive Economic and Trade Agreement, the released version of the EU-Mercosur Agreement does not come with a chapter on investment nor on investment and investors‘ protection. Therefore, under the EU-Mercosur Agreement, investors would have to rely on the FTA’s state-state dispute settlement mechanism, which, as stated in the previous section, requires governments to represent the interests of their investors in cases of dispute. Furthermore, as the dispute settlement chapter is aimed at solving disputes arising out of trade, it does not include specific investment-protection standards, such as the right to fair and equitable treatment or the right not to be indirectly expropriated without compensation.

In this context it is important to consider the fact that the Bilateral Investment Treaties that have been concluded between Mercosur countries and EU Member States provide for investor-state dispute settlement (in this regard, Argentina has signed BITs with 21 EU Member States [10], Uruguay with 14 [11] and Paraguay with 14 [12]). Yet, most of these agreements were signed over 10 years ago and thus, they do not reflect the recent trends in investment provisions exposed in section 3 for both Mercosur and EU countries. Consequently, investors should be vigilant for the case of amendments and adoptions of new BITs in the aftermath of the signing of the Agreement.

In the case of investments placed in Brazil, due regard shall be taken to the fact that the country has never ratified a BIT until very recently, when it ratified the Angola-Brazil CFIA (2015). Additionally, the recent bilateral investment treaties being signed by Brazil are based on the Brazil Model Cooperation and Facilitation Agreement (Brazil Model CFIA), which is characterized by promotion of investment cooperation and facilitation, rather than investment attraction. Importantly, the Brazil Model CFIA (2015) does not afford investors with FET and with the right of compensation pursuant to indirect expropriation. Furthermore, the agreement only provides for state-state arbitration and only in the event of exhaustion of the dispute prevention mechanism provided under the Model.

If Mercosur countries are to follow the trend established under the Mercosur Protocol (2017) in future international investment agreements with EU countries, foreign investors are not to be afforded important standards of treatment and might not even have the right to recourse themselves to arbitration in the case an investment dispute arises. Thus, until an investment chapter or an investment agreement between the two blocs is released, the advice for investors is to be cautious before placing their investment in Mercosur countries.

Conclusion

The EU-Mercosur Free Trade Agreement is set to be an Agreement that will boost the economies of all members to such an agreement. Thus, foreign direct investment will likely be promoted and, in this case, investors from the European Union should bear in mind the trends in investment protection (i.e. the suppression of FET clauses and of provisions for compensation for indirect expropriation), and in investment arbitration (State-State Arbitration) being undertaken in the Mercosur region before placing their investment there.

To EU investors wishing to place investments in the Mercosur region, we recommend to contact the Billiet & Co legal team of experts for assistance at: https://www.billiet-co.be.

By Isabela Coleto, legal intern at Billiet & Co

 

REFERENCES

[1] The Southern Common Market (MERCOSUR) is an economic and political bloc composed by Argentina, Brazil, Paraguay, and Uruguay.
[2] https://ec.europa.eu/commission/presscorner/detail/en/ip_19_3396, last accessed 10/07/2019.
[3] https://www.reuters.com/article/us-eu-trade-mercosur/eu-mercosur-strike-trade-pact-defying-protectionist-wave-idUSKCN1TT2KD, last accessed 10/07/2019.
[4] For instance, Brazil is expecting the agreement to add $130 bi to its GDP in ten      years. http://agenciabrasil.ebc.com.br/en/economia/noticia/2019-07/mercosur- eu-deal-may-boost-brazil-gdp-130-bi-ten-years, last accessed 10/07/2019.
[5] EU-Mercosur, Agreement in principle.
http://trade.ec.europa.eu/doclib/docs/2019/june/tradoc_157964.pdf, last accessed 10/07/0219.
[6] UNCITRAL, Working Group III.
http://www.uncitral.org/uncitral/en/commission/working_groups/3Investor_State.html, last accessed 11/07/2019.
[7] http://trade.ec.europa.eu/doclib/press/index.cfm?id=1972, last accessed 11/07/2019.
[8] A Permanent Investment Court was established in EU’s trade treaties with   Canada (CETA) and Vietnam (EU-Vietnam Investment Protection Agreement) and it was proposed under the now installed negotiations for the EU-USA Trade and Investment Agreement (TTIP).
[9] The Mercosur Protocol on Investment Cooperation and Facilitation (2017). http://www.mre.gov.py/tratados/public_web/DetallesTratado.aspx?id=6E8bE7  i%2FWyKPb1VlfV2uLw%3D%3D&em=lc4aLYHVB0dF+kNrtEvsmZ96BovjLlz0mcrZruYPcn8%3D, last accessed 11/07/2019.
[10] All the BITs signed between Argentina and EU countries can be found at UNCTAD Policy Hub. https://investmentpolicy.unctad.org/international-investment-agreements, last accessed 11/07/2019.
[11] Ibid. [10].
[12] Ibid. [10].