WTO Rules and
Procedures and Their Implication for the Kyoto Protocol
A Background Paper
Prepared by the United States Council for International
Business
November 2002
(Based on a
presentation by USCIB Senior Vice President Timothy Deal at the
National Climate Change Conference, Calgary, Alberta, October 8, 2002)
Introduction
The Kyoto Protocol to the United Nations Framework
Convention on Climate Change sets legally binding reductions for greenhouse gas
emissions in the so-called Annex 1 states, essentially OECD countries and
countries in transition to a market economy.
The Protocol introduces three international flexibility mechanisms:
international emissions trading, joint implementation, and the clean development
mechanism. The article defining the
flexibility mechanisms notes that their use must be supplemented by domestic
actions.[1]
A paper prepared by ZhongXiang Zhang and Lucas Assunção for
the Fondazione Eni Enrico Mattei entitled “Domestic Climate Policies and the
WTO” notes that the Kyoto Protocol gives countries considerable flexibility in
meeting their emission commitments.
Possible climate policies might include carbon or energy taxes,
subsidies, energy efficiency standards, ecolabels, and government procurement
policies. Putting such policies into
effect, however, could raise questions about their consistency with WTO rules
if they somehow discriminate between domestic and foreign producers. Zhang and Assunção summarize the dilemma as
follows:
“In order to meet
their Kyoto emission targets with minimum adverse effects on their economy, it
is highly likely that Annex 1 governments with differentiated legal and
political systems might pursue these policies in such a way as to unfairly
favor domestic producers over foreign ones.
Such differential treatment could occur in governing eligibility for,
and the amount of, the subsidy, in establishing energy efficiency standards, in
the determination of the category of ecolabled products and the procedures of
establishing ecolabels, in the specifications in tenders, and in specifying
condition(s) for participating in government procurement bids. In (the) case where a country unilaterally
imposes a carbon tax, it may adjust taxes at the border to mitigate (the)
competitiveness effects of cheaper imports not subject to a similar level of
the carbon in the country of origin.
Measure(s) of this sort may well raise complex questions with respect to
the WTO consistency and the conditions under which border taxes can be adjusted
to accommodate a loss of international competitiveness.”[2]
The possibility of a clash over climate change commitments
under the Kyoto Protocol and WTO rules has increased as a result of the U.S.
decision to abandon Kyoto. Strong resentment
over this action, particularly in Europe, may lead the EU, and perhaps others,
to undertake actions to penalize American and other non-Annex 1 firms for
alleged competitive advantages resulting from their non-adherence to Kyoto.
The following statements by the EU and two prominent NGOs
reflect those attitudes and concerns:
European
Union
“The EU also wants to clarify that
measures taken to tackle environmental problems under Multilateral
Environmental Agreements (MEAs), such as the Kyoto Protocol on Climate change,
are not contrary to WTO rules. For
example, problems could arise if a country imposed a trade measure for
environmental purposes on another WTO Member that had not signed the MEA. Could the country affected use WTO rules to
overrule the trade measures? The EU
wants WTO Members to agree that this should not be allowed to happen.”[3]
Greenpeace International
“WTO Member States
should say before arriving in Doha (for the WTO Ministerial) that they will not
discuss the possibility of a new round of trade liberalization if the US does
not agree to ratify the Kyoto Protocol.
If the US continues to refuse to ratify the Kyoto Protocol, WTO Members
States who support Kyoto should also consider bringing that country before a
WTO Dispute Panel, because the US position is providing the equivalent to a
hidden subsidy for their domestic industry, inconsistent with WTO rules.”[4]
Friends
of the Earth Europe
“EU governments
should also consider targeting specifically high energy intensive
products. The U.S. rejection of the
Kyoto Protocol is unfair and puts European business at a disadvantage. With Bush’s increasing rejection of
international agreements that are essential to protect our environment, Europe
should have every right to penalize U.S. goods for the pollution they cause.”[5]
The purpose of this paper is to provide a general overview
of WTO rules pertaining to trade and environment. It also refers to a recent decision by the WTO’s Appellate Body,
which has important implications for the interpretation and enforcement of
those rules. The decision in the WTO’s Shrimp-Turtle case may have opened the
door for the use of trade measures to promote environmental objectives based on
the way that a product is made.
There is also a separate, but equally important, question
relating to the legality of border tax adjustments in the context of a carbon
tax scheme. The Uruguay Round Agreement
on Subsidies and Countervailing Measures changed the rules concerning the
legality of indirect tax rebates on inputs consumed in the production process,
and that may also have relevance to this issue.
GATT/WTO
Rules on Trade and Environment
The WTO came into existence on January 1, 1995. Although the WTO is a relatively new
international body, its roots go back to the creation of the GATT in 1948. The GATT was originally established as a
body to regulate tariffs on goods, primarily industrial goods. Over time, the GATT took up non-tariff
barriers such as standards and quotas.
The Uruguay Round extended the reach of the GATT, and ultimately the
WTO, to services, trade aspects of investment policy, intellectual property,
and agricultural goods.
There are important institutional differences between the
GATT and WTO. For example, signatories to the GATT were “Contracting Parties”,
not “Members”, terminology that reflected the contractual nature of the
relationship. With the conclusion of
the Uruguay Round, GATT Contracting Parties became WTO members.
These changes were important in themselves, but perhaps the
really critical distinction between the GATT and WTO was the creation of a
binding dispute settlement system.
Under the GATT, Contracting Parties could bring cases before the
international body, but there was no enforcement mechanism. Creation of the WTO changed all that, and
over the last six years the judicial procedures and case law have developed
further.
The GATT/WTO rules that are – or may become – sources of
conflict between the WTO and Multilateral Environment Agreements (MEAs), such
as the Kyoto Protocol, are as follows:
1. GATT
Article I, the Most Favored Nation clause, requires equal treatment among WTO
signatories. Yet a number of MEAs
require parties to those agreements to apply more restrictive trade rules
against non-parties to the agreements than parties.
2. GATT
Article III, the National Treatment clause, requires imported products to be
treated no less favorably than “like” domestic products. Under the rules in effect, at least until
the Shrimp-Turtle case, governments
could under Article III put controls on imports comparable to those imposed on
domestic goods with respect to their physical characteristics and
performance. However, they could not
impose restrictions on how a product was made if those production methods had
no effect on the product’s performance or characteristics. Under the “like” product definition, import
restrictions on the basis of non-product related process and production
methods (PPMs) were not permitted. The
Woodrow Wilson Center offered the following example of a possible trade and
environmental conflict under Article III.
It noted that a semiconductor made with ozone-depleting substances would
be banned under the Montreal Protocol.
Yet the WTO definition of “like” product (pre-Shrimp-Turtle) would prohibit such trade discrimination.[6]
3. GATT
Article XI bans quotas and the use of import or export licenses. However, some existing MEAs impose licensing
requirements, which might violate Article XI.
4. GATT
Article XX exempts certain measures from other WTO obligations if under Article
XX (b) they are “…necessary to protect human, animal, or plant life and
health…” or under Article XX (g) they relate “…to the conservation of
exhaustible natural resources.”
However, that Article requires that such measures must not be applied in
an arbitrary or unjustifiably discriminatory manner or act as a disguised
restriction on trade.
WTO
Jurisprudence before Shrimp-Turtle
In a 1998 paper written before the Appellate Body decision
in Shrimp-Turtle, Gary Sampson,
former head of the Trade and Environment Division of the WTO, noted the need
for policy coherence between WTO rules and climate change commitments.[7] In this article, he summarized the
prevailing views on these issues, which are still held by a number of scholars
and even some governments. Referring to
the possible conflict between WTO rights and obligations with whatever emerges
from future climate change negotiations, he stressed the following points:
·
Acceptance of a legal instrument to
reduce greenhouse gas emissions would mean that any individual government would
have agreed, in effect, to be subjected to the obligations of that agreement.
·
If trade measures not authorized by WTO
rules were part of the climate change agreement, the WTO members in question
would have effectively waived their WTO rights.
·
Inconsistencies between the climate
change agreement and the WTO would be relevant only if WTO-inconsistent
measures were applied to non-parties to the environmental agreement.
Later in the paper, he turns specifically to the “like
product” question, which is important in determining the WTO-consistency of
certain measures. Under the rules in
effect at least through early 1998, he argued:
“It is important for
measures taken for climate change purposes, however, that the WTO flexibility
only extends to regulation of products
produced domestically, imported products,
and domestic production processes. It does not extend to flexibility in the
extraterritorial application of measures relating to production processes in
exporting countries. The manner in which a foreign product is produced is not a basis on
which WTO rights and obligations are established…Thus, for measures to be WTO
consistent, products that have the same physical form are to be considered to
be like products by the importing country, irrespective of whether they have
been produced abroad in an environmentally friendly manner or not.”[8]
What does all this mean in practice? Until the Shrimp-Turtle case in 1998, one could say with a certain degree of
confidence that:
1. Governments
were free to set whatever standard of protection they deemed appropriate in the
areas of public health, safety, and the environment, provided that they did not
treat domestic producers more favorably than foreign producers.
2. Governments
could set whatever level of protection they deemed appropriate domestically,
but they did not have the right to set standards for other countries.[9]
Recent WTO Appellate Body decisions have, however, cast
doubt on these interpretations. And
they may have paved the way for increased use of discriminatory trade measures
to meet environmental objectives.
The
Shrimp-Turtle Case
As noted earlier, the Shrimp-Turtle
case decided by the Appellate Body in 1998 broke new ground in addressing the
interaction between WTO trade rules and domestic measures designed to protect
the environment. In this case, India,
Pakistan, Malaysia, and Thailand brought action in the WTO against an U.S. law
that restricted imports of shrimp not caught in nets equipped with turtle excluder
devices. The four governments
challenged this measure, asserting that the U.S. could not apply its laws to
foreign process and production methods.
The Appellate Body found that the U.S. shrimp-turtle law
fell within the scope of the Article XX (g) exception for measures relating to
the conservation of an exhaustible natural resource.
First, the Appellate Body determined that the U.S. law
encouraged other countries to adopt sea turtle conservation programs and was
thus a measure relating to conservation.
It rejected arguments made by the complainants that the U.S. measure
fell outside the scope of Article XX (g) because the sea turtles never entered
U.S. waters. It found a “sufficient
nexus” between the U.S. and the endangered sea turtles because sea turtles are
highly migratory and because all of the sea turtle species at issue could be
found in U.S. waters, even though no individual sea turtle actually traveled
from Asia to the U.S.
Second, it found that endangered species could be deemed “exhaustible
natural resources” under the terms of Article XX (g). In doing so, the Appellate Body looked beyond the specific GATT
Article to the preamble of the 1994 WTO agreement, which referred to
sustainable development, and to the fact that other international conventions
used the term “natural resource” to embrace both living and non-living
resources.
Having made these findings, which established important
precedents, the Appellate Body then ruled against the U.S. because of the way
the U.S. implemented the law, but not the law itself.[10]
Implications
of Shrimp-Turtle
What is the significance of this decision and what is its
relevance to the Kyoto Protocol?
According to a new study by the Economic Strategy Institute, the Shrimp-Turtle case represents a
fundamental shift in WTO jurisprudence.
The ESI claims that in Shrimp-Turtle,
the Appellate Body completed a transition in dispute settlement reasoning that,
if sustained, would permit members to invoke the Article XX exemptions to
regulate imports on the basis of non-product related PPMs to accomplish
environmental objectives both outside their jurisdiction and in the global
commons -- and perhaps to achieve other social objectives.[11]
Geoffrey Shaffer, Assistant Professor of Law at University
of Wisconsin Law School, assessed the implications of this decision as follows:
“The Appellate Body’s decision attempts
to promote multilateral cooperation and to ensure that domestic decision-making
over trade-environment matters takes into account unrepresented foreign
interests. In the process, the
Appellate Body implies that a unilateral environment-related trade measure
based on non-product related PPMs may be implemented in compliance with GATT
requirements to protect a shared, but endangered, world resource.”[12]
Dr.
Arthur Appleton, a Swiss lawyer who specializes in WTO work and international
arbitration, pointed out in a comprehensive article on the WTO and emissions
trading that the Shrimp-Turtle case
demonstrates that WTO panels and the Appellate do not operate in a political
vacuum.[13] Nonetheless, he argues that:
“The near universal acceptance of the
climate change instruments, by WTO and non-WTO members alike, coupled with the
Appellate Body’s expressed interest in environmental issues, greatly reduces the
likelihood that the Appellate Body will ignore, or that WTO members will seek
to challenge as WTO-inconsistent, the eventual UN Framework Convention on
Climate Change implementation program.”[14]
Still,
he hedges his bet, stating:
“This does not mean that there will not
be tensions, and it does not mean that situations cannot be imagined where
conflicts will arise. In particular,
disputes based on competition concerns are certainly likely because those
choosing to stay outside of Kyoto/Bonn and future climate instruments may
benefit from lower production costs.”[15]
That
said, he concludes that:
“…WTO panels and the Appellate Body
would only be willing to countenance the application of trade measures against
Kyoto non-participants when climate change remedies satisfy the
non-discrimination principle, when those obligations are close to universal
acceptance (which they are), when climate change remedies require a very
serious trade measure for their resolution, and reasonable cooperative measures
to address climate change problems fail.”[16]
Two
German legal scholars see things differently, however. In a July 2001 paper, Matthias Buck and Roda
Veheyen, current and former researchers at Hamburg University’s Research Unit
Environmental Law, assert that as a result of the Shrimp-Turtle case, trade restrictive environmental measures –
including PPM-based measures – can be justified under GATT provisions if such
measures were agreed and negotiated multilaterally.[17] They also argue that unilateral measures
might be acceptable if they were adopted after serious efforts to reach an
international agreement with states whose WTO rights might be affected by an
environmental policy measure.
Turning
to countries such as the U.S., which have not agreed to Kyoto, they make the
following claim:
“…(I)t is important to stress that
legally required minimum cooperation effort at the trade and climate change
interface not only imposes obligations on more progressive governments, but
will also serve to judge the behavior of industrialized countries which seek to
avoid any meaningful steps to address the climate change challenge. Viewed from this angle, one would have to
ask whether WTO parties that resist or even obstruct international cooperation
on climate change, and thus violate their international obligations to
cooperate in this field, lose some of their legitimacy to challenge climate
change policy measures adopted by more constructive and progressive governments
as WTO-incompatible.
In sum, if progressive governments meet
the ‘minimum cooperation efforts’ threshold, this will shift the line of
equilibrium between their WTO obligations and their other obligations resulting
from international law on climate change in favor of the WTO-compatibility of a
climate change policy measure.
Governments which violate their international cooperation obligations in
the area of climate change may not be able to exercise rights conferred to them
under the WTO-regime to an extent which will undermine the effectiveness of
climate change policies adopted by more progressive governments to the benefit
of the global climate and of humankind as a whole.”[18]
While these scholars appear to take a more radical approach
to the issue than their legal brethren elsewhere, they do raise an important
point in their references to international obligations. Article 18 of the Vienna Convention on the
Law of Treaties is relevant in that regard and states as follows:
“A state is obliged
to refrain from acts which would defeat the object and purpose of a treaty
when:
(a) it has signed the
treaty of has exchanged instruments constituting the treaty subject to
ratification, acceptance or approval until it shall have made the intention
clear not to become a party to the treaty…”[19]
Since the U.S. has signed the UN Framework Convention on
Climate Change even if it has not ratified the Kyoto Protocol, the U.S. could
therefore lose some of the protections afforded it under WTO rules in any WTO
dispute brought by the EU or other Kyoto participant. Unless the U.S. takes a formal step to withdraw from the
Framework Convention, as it did in the case of the International Criminal
Court, a WTO Dispute Panel or the Appellate Body could, in keeping with the
Vienna Convention and customary international law, deny the U.S. legal standing
to challenge, for example, EU measures to enforce Kyoto.
Border
Tax Adjustments and the WTO
If the arguments outlined above have any validity, it is not
difficult to imagine a situation, for example, where the EU takes trade
measures against firms to protect their firms from foreign competitors not
subject to the Kyoto rules. These
advantages might include, for example, lower fossil fuel costs in the U.S. and
other non-Annex 1 countries.
Such an approach might involve use of a carbon tax coupled
with some sort of border tax adjustment.
Consider a situation whereby the EU imposed an internal tax on the
carbon emitted in the production of goods.
The tax would encourage the reduction of greenhouse gas emissions and
the prices of energy-intensive goods and goods whose production caused high
greenhouse gas emissions would rise as a result. But the tax would penalize EU producers, who could complain that
they could not compete with foreign firms not subject to those taxes. Consequently, the Kyoto signatory country –
the EU in this example -- might impose a tax on imported goods equal to what
would have been paid had these goods been manufactured domestically. Of course, under such a scheme exported
goods probably would be eligible for a full rebate of internal taxes.
The legality of such a border tax system under GATT rules,
that is, before conclusion of the Uruguay Round would be doubtful. Border tax adjustments on imports or exports
of products were permitted for any indirect taxes levied on the product itself
or on products physically incorporated or exhausted in the production of the
final good. Adjustments were not
allowed for indirect taxes levied on products or services consumed in
the course of production.
But the Uruguay Round Agreement on Subsidies and
Countervailing Measures may have called that previous understanding into
question. The new agreement is broader
in scope than that concluded in 1979 in that indirect taxes on “inputs that are
consumed in the production of exported products” may be rebated without being
subject to any countervailing duties.
Such inputs are further defined as inputs “physically incorporated,
energy, fuels and oil used in the production process and catalysts which are
consumed in the course of their use to obtain the exported product.”
While the reference in the agreement is to the rebate of
export taxes, it seems reasonable to assume that, under this provision, the WTO
would allow full taxation of imports so that domestically produced goods and
imports would be treated equally.
In 1994, then USCIB President Abraham Katz sought
clarification from the Clinton Administration on this point. The reply from USTR, which is quoted in a
1997 WTO Secretariat report, indicates that the new language was the object of
an informal agreement among developed countries whereby:
“…It was proposed to address a specific
and very narrow issue involving certain energy-intensive exports from a limited
number of countries. It was never
intended to fundamentally expand the right of countries to apply border
adjustment for a broader range to taxes on energy, especially in the developed
world…We (the U.S.) discussed the matter with other developed countries
involved in the Subsidies Code negotiations.
We are satisfied that they share our views on the purpose of the text as
drafted and the importance of careful international examination before any
broader policy conclusions should be drawn regarding border adjustments and
energy taxes.”[20]
This so-called “Gentlemen’s Agreement” has never been
tested. However, the actual language in
the Subsidies and Countervailing Measures Agreement stands as written and
ratified. And with the evolution of WTO
case law, as exemplified by the Shrimp-Turtle
decision, it is conceivable that a Kyoto Annex 1 country could claim that a
border tax, for example, is entitled to an environmental exception under GATT
Article XX.
Indeed, the 1996 report of the WTO’s Committee on Trade and
Environment to the Singapore Ministerial explicitly states, “Scope exists under
WTO provisions for Member governments to apply environmental charges and
taxes.” The report went on to note that
the CTE had done only preliminary work on this latter, concluding that “Further
work on this Item is needed.”[21]
Conclusion
The
Appellate Body’s decision in Shrimp-Turtle
has seemingly established the principle that non-product related PPMs are
acceptable restraints on trade where a country claims to be protecting a
resource that is found in the global commons.
There is some risk then that the EU and other like-minded countries
might resort to trade measures in the form of border tax adjustments or other
barriers to offset the competitive advantage allegedly enjoyed by firms in the
U.S. and other non-Annex 1 countries because of their non-adherence to
Kyoto. And they might have a good,
legal case against a trade challenge launched by those countries in the WTO if
recent case law is an accurate guide.
How
realistic are these threats? Right now, the risk is probably low. Many of the views quoted in this paper are
highly speculative in nature with respect to the linkages between a climate
change agreement and the WTO.
Moreover, it is hard to imagine the EU or any other country or trading
bloc being in a position to create some compensatory or trade retaliatory
regime before Kyoto is fully implemented.
The
U.S. Administration is mindful of the threat.
For the moment, however, U.S. officials are waiting to see what, if any,
specific measures the EU or others develop.
They have noted that the Kyoto Protocol is silent on trade measures and
that Kyoto imposes no trade obligations.
Therefore, it is argued, any trade action taken by the EU or others
would have to be consistent with WTO rules and benefit from an Article XX
exception. The position of other
non-Annex 1 countries is not clear on this point.
But
that is the rub. The business community
cannot count on any challenge in the WTO against trade measures designed to
promote compliance with Kyoto being upheld by a Dispute Panel or the Appellate
Body. The Shrimp-Turtle decision and the revised treatment of inputs in the
Uruguay Round’s agreement on subsidies have opened the door to such
measures. And it is clear that there
are some groups and governments seemingly prepared to test the system at some
future point. Such a challenge would be
significant not only for business, but also for the functioning and
international standing of the WTO.
