Current Legal Issues Affecting Central Banks, Volume V
Chapter

COMMENT

Author(s):
Robert Effros
Published Date:
May 1998
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Author(s)
DEBORAH E. SIEGEL

A Comparison of Approaches in the North American Free Trade Agreement and the General Agreement on Trade in Services: The Negative List and Positive List Approaches

This comment examines some practical points about drafting an agreement on financial services, based on the comprehensive description of the General Agreement on Trade in Services (GATS)1 provided in Chapter 18.

As described in Chapter 18, the GATS contains some general obligations, but its structure is such that members provide the vast majority of sectoral commitments in their schedules. This model has been called the “positive list” approach, in that the parties “positively” state their commitments in the schedules. It is also called the “bottom-up” approach, in that the parties are building a package of specific commitments from the bottom.

By comparison, an international agreement that took an opposite approach on services is the North American Free Trade Agreement (NAFTA) between Canada, Mexico, and the United States.2 The NAFTA is called the “negative list” model, because it establishes most of the substantive obligations in the text, and the schedules list reservations to, or exclusions from, the general obligations.3 It is also called the “top-down” or “formula” approach.

In general, it seems fairly clear that the so-called negative list approach used in NAFTA is more effective in achieving further liberalization, which was the intent of the parties to the NAFTA from the outset. There was not only the goal of opening the other parties’ markets, but there was a recognition of the domestic benefits of opening one’s own markets in terms of fostering foreign investment. Furthermore, an international agreement could serve to solidify progressive policies that had been instituted on the domestic front—a motivation reasonably attributable to Mexico, given the expansive reform in that country at the time NAFTA was negotiated. Other aspects of domestic politics that may influence the negotiation of an international agreement, such as the dynamics between a federal government and a state or local government or vis-à-vis a protectionist domestic industry, are addressed in the other comment to Chapter 18.

Even if one seeks to achieve extensive liberalization, using the negative list has certain disadvantages. “It was like hanging out your dirty laundry,” said one U.S. NAFTA negotiator. Domestic measures that are discriminatory or otherwise restrictive need to be spelled out in the schedules in order to be reserved. These measures are consequently highlighted and effectively advertised to other countries, thus inviting questions about them in future negotiations. Furthermore, this “advertisement” must be very clear, as any measure that is not clearly included in the schedule is not reserved. The failure to note a measure in the schedule means it will be subject to the general obligations established by the treaty.

The positive list approach, in contrast, while perhaps generating more modest results, appeared particularly useful in the GATS situation. Many countries resisted including services in the Uruguay Round at all when the negotiations started.4 By giving the parties the discretion to craft their obligations, the positive list approach helped convince reluctant countries to become participants and permitted the Uruguay Round to subject services to a set of multilateral disciplines. The schedules are not completely discretionary of course, because the commitments are negotiated; nonetheless, this process leaves a fair bit of control to each negotiating party. Additionally, it becomes evident, when comparing specific provisions of the two agreements, that the GATS provisions are not only different from the NAFTA provisions, they are different from one another. The various provisions of the GATS, while ultimately permitting discretion on the content of the schedules, create different presumptions of what is to be included. The extent of this presumption can create a dynamic in the negotiations that can affect the outcome.

This comment reviews a few provisions in the text of the two agreements, focusing on the aspects relating to these bottom-up or top-down approaches, while leaving aside stylistic and other types of differences. First, it examines three main substantive obligations—national treatment, market access, and most-favored-nation treatment. Second, the comment reviews two main exceptions particularly important for financial services—one on governmental activities, such as monetary and exchange rate policies, and one on measures taken for prudential reasons.

Substantive Obligations

National Treatment

The national treatment provisions of the two agreements provide the clearest and most straightforward examples of textual variations required by the two approaches. The NAFTA creates a general obligation to provide national treatment:

Each Party shall accord to investors of another Party treatment no less favorable than that it accords to its own investors, in like circumstances, with respect to the establishment, acquisition, expansion, management, conduct, operation, and sale or other disposition of financial institutions and investments in financial institutions in its territory.5

In this provision, the clause “[e]ach Party shall accord …” establishes the general obligation. Nonetheless, this general obligation is subject to reservations. Article 1409 provides, for all the substantive provisions reviewed here, the right to list nonconforming measures in an accompanying schedule. The reservations create the “negative list.”

In contrast, the GATS provision clearly indicates that the national treatment provision applies only to sectors identified in the schedules.

In the sectors inscribed in its Schedule, and subject to any conditions and qualifications set out therein, each Member shall accord to services and service suppliers of any other Member, in respect of all measures affecting the supply of services, treatment no less favorable than that it accords to its own like services and service suppliers.6

Thus, for a service or sector to be subject to the national treatment requirement, a member must “schedule” it, as indicated by the clause “[i]n the sectors inscribed in its Schedule, and subject to any conditions and qualifications set out therein.…”7

How does the national treatment obligation apply to financial services, for example, to a rule to apply national treatment for the establishment of banks? Assume that a regulatory agency decides that a geographic area is “overbanked,” that is, that the market is saturated with banks at that time, and it rules that there should be no new banks in that geographic area. This rule applies to domestic as well as foreign banks. To determine if this is a violation of national treatment, the first question is whether the party is obliged under the treaty to allow the establishment of banks. Under the NAFTA, this is a general rule, unless specifically excluded by the schedules. In the GATS, however, this obligation applies only if the party specifically committed to it.

Once it is established that the obligation applies, the second question is one of interpretation. Some argue that, because the preclusion would apply to new banks of any kind, there is no discrimination between domestic and foreign banks and no national treatment violation. However, the issue gets more complicated if the market had never been open to foreign banks. In that case, it would have to be determined whether a preclusion against new banks that is de jure consistent with national treatment (because it does not discriminate between domestic and foreign banks) is nonetheless de facto precluding any opportunity for foreign banks to compete. For both treaties, questions of this nature will need to be resolved in practice. Any interpretation of a general obligation under NAFTA would presumably apply to all parties to the agreement, while an obligation created by the individual schedules under the GATS is potentially subject to a different interpretation for each member, depending on the presentation of the obligation in the schedules.8

Market Access

The provisions requiring market access, which are more complex than the national treatment provision, reveal several interesting differences between the two approaches. The NAFTA rules on market access are spread out in several provisions but are divided into two main headings—the right of establishment and cross-border trade in services. On the right of establishment, each NAFTA party must permit individuals and companies from the other NAFTA countries to establish financial institutions in its territory and to expand the operations of such institutions throughout its territory.9 This benefit is limited to financial service providers, so that to be eligible for the benefits on market access set forth in NAFTA’s chapter on financial services, the entity must already be engaged in the business of providing financial services in its own territory.10

On cross-border trade, NAFTA has two relevant provisions. First, there is a “standstill” obligation under which a NAFTA party may maintain its existing measures regulating cross-border financial services and mobility of providers, but it may not adopt any new measures increasing existing restrictions on cross-border services permitted on the date NAFTA entered into force, unless otherwise provided in the schedules.11 This first provision relates to the “mobility of service providers” in the sense that it applies to the ability of a provider to sell financial services in a jurisdiction where it has no place of business.12

The second provision has been referred to as involving the “mobility of consumers,” in that it ensures the ability of the consumer to purchase services from a provider located outside the consumer’s jurisdiction of residence. The provision states that

[e]ach Party shall permit persons located in its territory, and its nationals wherever located, to purchase financial services from cross-border financial service providers of another Party located in the territory of that other Party or of another Party.13

The provision does not require allowing such providers to “do business or solicit in their territory,” and it permits each party to define “doing business.”14 There is also a provision on senior management and boards of directors.15

As is the case with the provision on national treatment, under Article 1409 these market access provisions are subject to reservations on nonconforming measures—the “negative list.”

The GATS provision, consistent with the positive list approach, refers to the schedules where the obligations must be “positively” listed.

With respect to market access through the modes of supply identified in Article I, each Member shall accord services and service suppliers of any other Member treatment no less favorable than that provided for under the terms, limitations and conditions agreed and specified in its Schedule.16

Under this positive list approach, it is clear that the commitments must be “scheduled,” as indicated by the clause “treatment no less favorable than that provided for under the terms, limitations and conditions agreed and specified in its Schedule.” It was intended that the commitments included in the schedules would be provided to all members, following the most-favored-nation principle addressed in the next part of this comment. Under this approach, a member could not offer a commitment by making it subject to reciprocal treatment from other members, because it does not indicate which other members reciprocate on that point; exceptions to the most-favored-nation principle were to be listed in a special annex for that purpose.17 In practice, some schedules were reportedly written specifying commitments to some members but not others.

A comparison of the NAFTA and GATS provisions on market access shows that the design of an international agreement has important implications for drafting techniques. The mention of Article 1 in the GATS provision refers to the four modes of supply defined by the GATS, as explained in Chapter 18, thereby addressing all the methods of supplying a financial service in one article on market access. The NAFTA, in contrast, has several provisions on market access. While there are certain differences concerning the modes of supply, the following point relates to the “negative list” and “positive list” approaches. For the NAFTA, because the right of establishment is a general obligation, it is necessary for the text to spell out all its features. The text does so in Article 1403, taking five paragraphs to define this right. For the GATS, however, the right of establishment or commercial presence is a scheduled commitment (under the third mode of supply) and is to be defined in the schedule, rather than in the agreement.

There are also different drafting techniques within the GATS itself. In Paragraph 2 of the article on market access, the text contains a list of six market access disciplines that are presumed to apply to scheduled commitments, unless the schedules specifically exclude them.

In sectors where market-based commitments are undertaken, the measures which a Member shall not maintain or adopt either on the basis of a regional subdivision or on the basis of its entire territory, unless otherwise specified in its Schedule, are defined as: [(a) through (f)]…18

The limitations that are listed in (a) through (f) involve (a) the number of service suppliers permitted, (b) the total value of service transactions, (c) the total number of service operations, (d) the total number of employees, (e) the type of legal entity necessary to provide a particular service, and (f) the participation of foreign capital.

The GATS thus blends the two approaches in this single provision in the sense that there is a negative list within the positive list. Agreeing to the right of establishment in the schedules is a positive list approach, but adding the limitations is a negative list. For example, if a country scheduled commitments to allow banks to be established in their territories, this commitment would not be subject to any of the limitations listed unless specifically noted in the schedules. In sum, the result of this formulation may be described as creating a presumption that a liberalized measure will not be subject to the specified limitations because the member must affirmatively list them. In practice, the presumption is often overturned because, as previously indicated, for the one case of right to establishment, limitations are quite prevalent in the schedules.

The GATS market access provision contains specific rules on the movement of capital associated with a certain type of commitment.19 If a member undertakes a market access commitment in relation to the cross-border supply of a service and if the cross-border movement of capital is an essential part of the service itself, that member is committed to allow such movement of capital. If a member undertakes a market access commitment in relation to the supply of a service by allowing commercial presence in its territory, that member is committed to allow all related transfers of capital into its territory. In contrast to the six market disciplines previously described, the member may not make an exception to this requirement if it notes a reservation in the schedule.

Most-Favored-Nation Treatment

In the NAFTA and the GATS, the most-favored-nation provisions use the negative list approach, that is, both treaties establish general obligations that may be subject to exceptions. Despite drafting style differences between the two provisions, the substance is similar. The most-favored-nation provision under NAFTA is as follows:

Each Party shall accord to investors of another Party, financial institutions of another Party, investments of investors in financial institutions and cross-border financial service providers of another Party treatment no less favorable than that it accords to the investors, financial institutions, investments of investors in financial institutions and cross-border financial service providers of any other Party or of a non-Party, in like circumstances.20

The GATS most-favored-nation rule provides:

With respect to any measure covered by this Agreement, each Member shall accord immediately and unconditionally to services and service suppliers of any other Member treatment no less favorable than that it accords to like services and service suppliers of any other country.21

By stating that each Party or Member “shall accord” most-favored-nation treatment, both treaties create a general obligation. Nonetheless, both treaties also specifically provide for scheduling exceptions. Under NAFTA, Article 1409 permits reservations. Under the GATS, an annex contains rules on measures that do not conform to this obligation.22

It is noteworthy that the ultimate effect of this general obligation depends on the style of the reservations. The GATS text may look more expansive on its face, because it requires most-favored-nation treatment to be afforded “immediately” and “unconditionally,” but the early results of the negotiations were more restrictive because of the extensive reservations that were taken at that time. In contrast, the annex governing exemptions to most-favored-nation status limits these reservations by stating that any exemption should apply for only ten years “in principle” and would be subject to review in five years.23 While not setting an expiration date for exceptions, the annex creates some momentum for their elimination. Also, the exemptions were meant to be a “one-shot deal,” in that they could not be added to in the future.

Therefore, while both the GATS and NAFTA use the same negative list approach, results may ensue, depending on the permissible scope of exemptions.

Exceptions

There are two exceptions in both agreements that are particularly significant for financial services—one on governmental activities, such as monetary policy, and one on prudential measures. While not technically using the negative list or positive list approaches, these exceptions demonstrate analogous techniques of “inclusive” or “exclusive” drafting to define the obligations established in the treaty.

Monetary Policies

The first exception perhaps most relevant to central bankers relates to governmental services, such as monetary or exchange rate policy.

The NAFTA text is straightforward on this point.

Nothing in this Part applies to non-discriminatory measures of general application taken by any public entity in pursuit of monetary and related credit policies or exchange rate policies.…24

By referring to “Nothing in this Part,” the NAFTA makes this exception applicable to the chapters included in the same part of the agreement as financial services, which covers investment generally, cross-border trade in services generally, telecommunications, competition policy, and temporary entry for businesspersons. The exception thus appears rather broad.

Compare the NAFTA provision to the GATS provision, however, where monetary and exchange rate policies are carved out of the definition of “services,” which determines the scope of the agreement at the outset. Under GATS, a service includes any service in any sector except “services supplied in the exercise of governmental authority,”25 and the Annex on Financial Services indicates that such services include monetary and exchange rate policy.

There are three types of activities listed: monetary or exchange rate policies conducted by a central bank or monetary authority; social security or public retirement plans; and other activities conducted by a public entity for the account of, with the guarantee of, or using the financial resources of the government.26 If either of these last two activities are turned over to the private sector, they are within the definition of services, which reflects the small likelihood that monetary or exchange rate policies would be conducted by a private entity.

How are these provisions affected by the positive list and negative list approaches? Take a hypothetical example relating to the right to manage newly privatized pension funds. First, consider how the GATS would apply. While handled by the government, the management of pension funds is excluded from the agreement, and consequently, the general obligations, including the requirement for most-favored-nation treatment, do not apply. Once the management of the pension funds is privatized, however, under Paragraph (c), management is included in the definition of services. This service is then subject to the general disciplines under the agreement, such as most-favored-nation treatment. Therefore, if the member were to open up this service to one member, it would have to make this service available to all members under the same terms unless it made a most-favored-nation reservation. However, if the member has not “scheduled” asset management under the GATS, it is not subject to national treatment or market access requirements that apply only according to the positive list, and, therefore, there is no obligation to allow pension fund managers from other members to bid for this service.

Under NAFTA’s negative list approach, once pension management is privatized, it is subject to all provisions of the Chapter on Financial Services, and it would be subject to the national treatment and market access requirements.

For monetary or exchange rate policies, which are not likely to be privatized and therefore would remain excluded, it seems, at first glance, that there is little difference resulting from this “inclusive” or “exclusive” style of defining services and the exceptions. A difference may arise, however, in a dispute settlement context. While these are obvious cases (neither agreement intends to extend its obligations to these kind of governmental policies), the treaties may have different results in response to a possible claim by a party under a “non-violation nullification or impairment” claim. Such a claim would state that, even though a measure does not violate the terms of the agreement, it so affects the benefits that another party expected to accrue from the agreement that it warrants providing compensation to that other party. A dispute resolution panel interpreting the GATS would likely rely on the GATT jurisprudence that establishes criteria for this type of claim.27

Under the NAFTA, a claim that expected benefits were nullified or impaired does not appear to be precluded. The claim would be a case of “nonviolation,” since, as an exception to obligations, monetary policies are grounds to derogate from the negotiated obligations. However, these negotiated obligations form part of the expected benefits under the agreement, and if the monetary measures somehow nullify or impair these expected benefits, there would appear to be grounds for a challenge. In the GATS, in contrast, these policies are excluded from the scope of the agreement at the outset and cannot form a part of the expected benefits. Thus, a change in monetary policies could not give rise to a claim that these expected benefits were nullified or impaired. The GATS does not appear to afford the possibility of a nullification or impairment claim on monetary policies, such as exchange rate measures, as appears to be the case under the NAFTA.

The NAFTA provision may also provide less protection to monetary and exchange rate policies because, under usual norms of statutory and treaty construction, exceptions are to be narrowly construed. Therefore, if a question of interpretation arose as to whether a measure is meant to be included, it is possible that a dispute resolution panel would reach different conclusions when analyzing the two treaties, given the presumptions created by the structure of the provisions. The breadth of the exception on monetary and exchange rate policies is another question that will have to be answered in practice.

Prudential Measures

The exception for prudential measures is worth mention, as it is essential to any agreement on financial services. The exceptions contain essentially the same substance under the two agreements, although structured differently. One striking difference, however, is that the NAFTA refers to “reasonable” prudential measures that are permitted,28 but the GATS does not use the term “reasonable.”29 Is the NAFTA exception on prudential measures more limited than the corresponding exception in the GATS? In this case, the answer is probably no. As other writers on the NAFTA have pointed out, the term “reasonable” is likely to be viewed as requiring a review of the policies behind the measure and the actualeffects; in other words, requiring a member to balance the trade restrictive effects against the value of the measure to achieve a kind of proportionality between the problem and the repercussions of the solution.30

While the GATS provision does not use the word “reasonable,” the provision should be interpreted as implicitly including this term. Chapter 18 suggests this interpretation. It describes various prudential measures and states that “capital and reserve requirements, as well as licensing criteria imposed on financial institutions that are not more burdensome than necessary to ensure the solvency and the smooth operation of those institutions, would normally be considered consistent with this provision.”31 This “not more burdensome than necessary” standard is a trademark of GATT panel reports interpreting the scope of the exceptions to the GATT and is likely to be applied to the GATS.32

The difference between the NAFTA and GATS provisions on the use of the term “reasonable” appears to be one of style only, perhaps depending on the traditions of the drafters as to their needs to make certain points of interpretation explicit in the agreement.

Conclusion

In sum, the NAFTA and the GATS provide negotiators of any future agreements on the liberalization of financial services with different models from which to choose. In the few provisions reviewed, there is a range of styles with differing levels of commitments. In the negative list approach, the text creates general obligations but permits reservations. This approach was generally used by the NAFTA, but the GATS most-favored-nation provision is also an example. The GATS also showed several variations on the positive list approach. The general theme of this approach is that the parties list their substantive obligations in schedules. This is essentially voluntary. The text can add a spectrum of variations, however, by prescribing what may be in the schedules; what must be in the schedules (such as the rules on capital movements); or what is presumed to be in the schedules (such as the six disciplines concerning market access). Due in part to these different presumptions created under the various provisions, the GATS agreement on financial services is a complex web of commitments and obligations.

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