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Liberalization of foreign direct investment : Europe 1992 and the U.S.-Canada Free Trade Agreement Sievers, Monika 1991

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- • ))\ - : • • IISISS dhm^fnimmmmiffmmmmjltffmi^fmmmmt^^ LIBERALIZATION OF FOREIGN DIRECT INVESTMENT: EUROPE 1992 AND THE U.S.-CANADA FREE TRADE AGREEMENT by MONIKA SIEVERS A THESIS IN PARTIAL FULFILLMENT OF THE REQUIREMENTS FOR THE DEGREE OF MASTER OF LAWS in THE FACULTY OF GRADUATE STUDIES (Law) We accept this thesis as conforming to the required standard THE UNIVERSITY OF BRITISH COLUMBIA April 1991 (t) Monika Sievers, 1991 1 3 In presenting this thesis in partial fulfilment of the requirements for an advanced degree at the University of British Columbia, I agree that the Library shall make it^ freely available for reference and study. 1 further agree that permission for extensive copying of this thesis for scholarly purposes may be granted by the head of my department or by his or her representatives, it is understood that copying or publication of this thesis for financial gain shall not be allowed whhout my written permission. (Signature) Department of Ijuixr The University of British Columbia Vancouver, Canada Date J L , - l ! Z ^ / 3 B j _ DE-6 (2/88) ABST^CT The. recent developments in the European Community evoked by the Single European Act and commorfiy referred to as the creation of "Fortress Europe" by the and of 1992 have been attracted considerable attention with respect to economic and political integration in the international arena. Similarly, the conclusion of the U.S.-Canada Free Trade Agreement aiming sit c loose form of economic integration received significant recognition. These two aqreemeivts cover not onry liberalization of trade in goods and services but moreover, include foreign direct investment. This is of particular significance since little progress has been made in its regulation on an international level in comparison to the regulation of trade in goods. Due t.o the fact that direct investment is primarily exercised by large multinational enterprises it has a larger politic; 1 impact on the host countries than trade in goods and services. Foreign ownership of local industry creates the concern of economic dependence and of a loss of sovereign powers among host . * governments. Consequently, governments introduce laws and regulations aiming at the restriction of direct investment of foreign investors. However, as foreign investment augments economic growth, it :1s of common benefit to both investors and host countries to provide an investment climate which balances the conflict of interest between the need of legal certainty and flexibility for foreign investors arid the safeguard of economic independence and political freedom of host country governments to introduce and maintain measures deemed necessary for the benefit of their national economies. This thesis will demonstrate.the most effective regime to solve this conflict through comparison of the Free Trade Agreement with the Treaty of Rome as amended by the Single European Act. These agreements have been chosen since they involve two of the triad world economic powers and thus, represent industrialized nations with the hiqhest degree of foreign direct investment aiming at the liberalization of direct investment in their "enlarged" markets. The thesis is divided into three parts. The first and second parts will discuss the degree of liberalization of foreign investment within the Common Market including the progress made under the Single European Act of 1986 and within the free trade area established by the U.S.-Canada Free Trade Agreement in 1989. The analysis will centre arouvid the issues of free establishment of companies, the National Treatment Principle, capital movement, anJ. mergers and acquisitions. The third part consists <?£ the comparative analysis and will provide the final conclusions. The conclusions will show that the two agreements share few similarities but they are characterized by their divergent , approach to direct investment liberalization. It is submitted that the more •cenpjsalaaiasiwe £&im e£ liteef-aliz-afeidlfc is reached in-i v the Common Market due to its broad restraint on sovereign powers of its Member States and coherently implemented elimination of restrictions on foreign investment. In contrast, the Free Trade Agreement only imposes selected obligations on the parties to liberalize direct investment. It will become clear that the Free Trade Agreement stands for a settlement of the most vexing investment issues between the parties rather than a commitment to virtually liberalize investment between the U.S. and Canada. In view of this result, recommendations are made to further liberalize investment under the Free Trade Agreement. These have to be seen, however, in the light of numerous economic and political divergencies between the Common Market and the U.S.-Canadian free trade area. TABLE OF CONTENTS ABSTRACT ii TABLE OF CONTENTS V INTRODUCTION 1 I. OVERVIEW 1 II. OUTLINE ...7 1. Descriptive Section.. ..7 2 . Comparative Section 10 III. RESEARCH METHODOLOGY 12 PART I INTRODUCTION: OBJECTIVES OF THE TREATY OF ROMS AS AHENDED BY THE SINGLE EUROPEAN ACT ("SEA") ........ 14 I. LEGAL STRUCTURE AND OBJECTIVES OF THE EEC... 14 1. The Treaty of Rome It 2. The Impetus of the SEA ....17 II. LEGAL ORDER OF THE COMMUNITY 21 1. Nature and Scope 21 2. Direct Effect and Direct Application 21 3. Doctrine of supremacy 23 III. COMJNITY IHSTITUTIOHS...,..*. .. 24 CHAfJEB H THE COMPLF.TTON OF THE EIGHT OF ESTABLISHMENT OF COMPANIES ...25 I. INTRODUCTION . *... 25 TT. SCOPE OF THE RIGHT OF ESTABLISHMENT ...29 l. Basic Principles «.29 1.1. Standstill. 29 1.2. National Treatment Principle ....2S 1.3. Harraonisation of Laws 30 2- Direct Effect., . . , , , 3 2 3. Prerequisites of Articles 52 and 58 34 3.1. Beneficiaries •• _•-•_••_•;;-•;«'... ..3< 3.1.1. Individuals, Article 52(1) 3. 3.1.2. Companies or Firms, Article 58(2) 35 3.2. Requirements for Companies, Article 58(1) 36 3.2.1. Formation in Accordance with National Laws..36 3.2.2. Registered Office, Central Administration, Principal Place of Business, , . . 37 (i) The Real Seat Theory 38. (iij The Incorporation Theory • •••.•• -38 4. Forms of Establishment ......40 4.1. Primary Establishment • 4 1 4.2. Secondary Establishment - 42 XII, RESTRICTIONS OF THE RIGHf OF; ES ABLISHMENT. ., ., . 43 1. Public Policy Reasons .43--: -Vll jr 2. Divergence of National Company Laws 44 2.1. Restrictions of Primary Establishment: Transfer and Merger 45 2.2. Legal Uncertainty and the » D e i a w a r e Effect". .46 IV. 1.EGAL BASIS FOR THE COMPLETION OF THE RIGHT OF ESTABLISHMENT 4 9 1. Article 54 (3) (g) : The Harmonisation Programme 3 1 1.1. Adopted Directives 1.2. Proposed Directives ....55 2. Legislative Proposals under Article 235 .58 2.1. The European Economic Interest Grouping 58 2.2. Statute Of European Company Law 63 3. Evaluation 62 \r. cmirTr.nsTnN 64 CHAPTER 2: THE INTERNAL MARKET OF CAPITAL: FULL LIBERALIZATION OF CAPITAL MOVEMENT IN 1993.. - 65 I. INTRODUCTION -. > =• = = 65 1. Prerequisite for Free Establishment 65 2. The Least Complete Freedom. 66 II . SCOPE OF LIBERALIZATION OF CAPITAL MOVEMENT, ARTICLE 67 (1) 6 9 1. Unspecified Meaning of Capital Movement 69 2 . Non-Discrimination: Nationality. Residence and Place of Investment 70 3. Limited Standstill Provision 71 4. Lack of Direct SCfacti "proper Functioning of the Common Market •• n 2 til . IMPLEMENTATION THROUGH DIRECTIVES .. . .76 1. Definition of Direct Investment 1*1 2. Beneficiaries: "Residents-1 7$ 3 . Incomplete Liberalization prior to the SEA: The First Directive gp 4. Full Liberalization under the SEA 82 4.1. Directive 86/566 82 4.2. Directive 88/361 83 IV. RESTRICTIONS ON CAPITAL MOVEMENT 84 1. Restrictions Under Directive 88/361 85 1.1. Access to Statistical and Administrative Information 85s 1.2. Transitional Measures 2s. Easage: Glauaias. undar*. A£tkij&La& U3& ancU . . . . . . .87 2.1. Requirements .'.. 88 2.2. Authorizations granted to Member States 90-1JC~ 2.3. Repeal of Authorizations ..91 V. CURRENT PAYMENTS AND TRANSFERS, ARTICLE 106 S3 1. Definition and Distinction from Capital Movement 93 2. Full Liberalization , , , , ,96 2.1. Current Payments and Transfers 96 2.2. Restrictions solely on Payments, Article 106(2) ....97 VI. CONCLUSION. 98 CHAPTER 3: MERGER CONTROL ON COMMUNITY LEVEL: A NEW INSTRUMENT TO ENHANCE DIRECT INVESTMENT 100 I, INTRODUCTION 1010 II, BRIEF OVERVIEW OF THE REGULATION OF COMPETITION UNDER THE TREATY OF ROME 103 1. Scope 1Q3 2. Principles and Objectives 104 3. Application of Articles 85 and 86 105 3.1. Direct Effect of Treaty Provisions!. ............ 105 3.2. Supremacy of Community La'-.v..... 106 3.3. Implementation by Regula ;ion No. 17.......... 107 III, MERGER CONTROL UNDER THE TRtuTY, !ATICLES 8 5 AND 86.,...108 Omission under Art-isles 85 and 2. Merger Control established through Case Law. ..112 2.1. Article 86; Changes effected by the X.. Continental Can Case 112 2.2,. Article 85: Changes effected by the Philip Morris/Rothmans Case 113 IV. THE INSTITUTION OF MERGER CONTROL UNDER THE SEA H i 1. Legal Basis ' 117 2. Basic Principles UJ 3. Scope ..119 3.1. Determination of Concentrations 126 3.2. "Community Dimensiorf' 123 3.3. Applicability to Concentrations without "Community Dimension" 125 3.4. Applicability to Restrictions ancillary to concentrations 12S 4. Appraisal of Concentrations: Compatibility with the Common Market. 127 f'. commission Powers . . . . 129 5.1. Prior Notification and Suspension 12® 5.2. Proceedings and Time Limits 13ft) k i TnuooH ation, Enforcement and Penalties.....131 V. RESTRICTIONS OF COMMUNITY POWERS /WD LEGAL UNCERTAINTY. ..133 1. Referral to Member States, Article 9 133 2. Protection of Legitimate Interests, Article 21(3)...13J 3. No Definitive Determination of concentrations, Article 3 136 4- Changes of Threshold, Article 137-x L -V I • CONCLUSION -i38 PART II CHAPTER 4: DIRECT INVESTMENT UNDER THE CANADA-UNITED STATES FREE TRADE AGREEHENT: A STEP TOWARDS LIBERALIZATION 140 I. INTRODUCTION 140 IX. THE PARTIES' ECONOMIC OBJECTIVES AND POLITICAL INTERESTS 142 1. The Canadian Perspective 143 1.1. Secure Access to the U.S. Market 146 1.2. "Sovereignty" and "National Identity" 149 2 . The United States Perspective 2.1. Liberalization of Foreign Direct Investment 15*13 2.2. The ETA as a 11 F a l l i n fho Tntoi-nal-innal Trarii! System 15% 3. Why a Free Trade Area ? * 1 5 3 111. . SCOPE OF LIBERALIZATION OF FOREIGN DIRECT INVESTMENT.'. .155 1. The Qualified National Treatment Principle 155 1.1. The Beneficiaries 157 1.2. Definition of Investment 158 1.3. Definition of "Measures 159 2 . Amendments of the Investment Canada Act -.,-.!€€ 2.1. Thresholds of Direct and Indirect Acquisitions....160 2.2. No Minimum Equity and No Divestiture 161 2.3. "Foreign" Investment 161 3. Ho Performance Requirements 161 4 . Access to Information 5. Capital Transfers 163 IV. RESTRICTIONS TO DIRECT INVESTMENT UNDER THE FTA 164 1. Exclusion of Specific Sectors of the Economy 164 1.1. Transportation Industries 165 1.2. cultural Industries 166 1.3. Conduct and Operation of Service Businesses 167 1.4. Oil. Gas. and Uranium Industries 168 1.5. Crown Corporations 168 2. Grandfathering of Existing Legislation 170 2.1. Aviation 173_ 2.2. Communication 172 2.3. Mineral and Energy Resources and Fishing 172 2.4. National Security: Exon-Florio Provision 173 2.5. Reporting Requirements 174 3 . Restrictions of 'the Investment Canada Act i7?6 3.1. Limitations of Review Threshold ..176 3.2. Discriminatory "Right to Exit" . .176 3.3. Restrictive Performance Requirements ..177 4 . Public Security .......178 5. Omission of Competition Rules on Mergers and Acquisitions 179 5.1. Divergent Competition Policies iso 5.1.1. Canadian Policy of High Concentration of Industry ...181 5.1.2. U.S. Policy of "Free Enterprise" ..181 5.2. Approximation of Competition Policies.... 182 5.2.1. Weakening of li.S. Enforcement Poi£cy# _ _ ^  _ _ _ 5.2.2. Canadian Institution of Tighter Discipline. 182 5.3. Scope of the U.S. and Canadian Competition rules. 183 5.3.1. Definition of Mergers, including Joint Ventures. .183 5.3.2. Appraisal of Anti-Competitive Conduct. 185 (i) Canadian Competition Act. .185 (ii) U.S. Department of Justice Guidelines....186 5.4. Restrictions through Prenotification ..189 5.4.1. Replacement of ICA Screening. .....189 5.4.2. Different Mandate of Competition Bureau and Investment Canada Agency.. 190 5.4.3. Hard-Scott-Rodino Act. . .192 5.5. Enferbawwairtt and Investigatory Powers. .193 5.5.1. Litigious U.S. Approach ...193 5.5.2. Canadian "Fix-it-First" Approach .......194 5.5.3. Other Divergencies 196 5.6. Extraterritoriality. „;........197 5.6.1. "Effects" Doctrine......... ..........197 XIV 5.6.2. Jurisdictional "Rule of Reason" and Foreign Government Defence ... • 199 5.6.3. continuing Conflicts: The Potash Case and the Uranium Cartel Cases . . . . 200 5.6.4. The "Memorandum of Understanding of 1984"..202 5.6.5. Canadian "Blocking" Law: FEMA 203 5.7. Impact of the 205 5.7.1. Designation of Monopolies 205 5.7.2. Confidential Treatment of Information, Article 1604 205 5.7.3. Harmonising Imparl m i-ho "Belevant-, Marker" Determination 206 5.7.4. E q u i v a l e n t Benefit: simple Damage Award....207 5.8. Subsisting Restrictions 208 v- CONCLUSION ........ PART III CHAPTER 5i LESSONS TO LEARN FOR THE U.S,-CANADIAN FREE TRADE AREA. .-213 I. INTRODUCTION. 213 II. DIVERGENCIES BETWEEN THE TREATY AND THE FTA. .215 1. Economic and Political Histories ..216 2. Legal Structure and Objectives ..218 XV '-IT 111. FUNDAMENTAL VERSUS SELECTIVE FOREIGN DIRECT INVESTMENT LIBERALIZATION • • • • 219 1. Coherent Application of General Principles versus Selected Obligations 219 2. Definition of Investment and "Measures" . ...221 3. Broader Coverage of Economic Sectors. 223 4. Complete Non-discrimination versus Qualified National Treatment 224 4.1. Complete Abolition of all Restrictions under the Treaty 224 4.2. Exceptions under the FTA. 225 4.3. Selective Rollback tinder the FTA ..... .....226 4.3.1. ICA Review Thresholds 226 4.3.2. Performance Requirements.. 226 4.3.3. Crown Corporations 227 4.4. Capital Movement 227 4.4.3. Full Liberalization under the Treaty 227 4.4.2. Liberalized Capital Transfers under the FTA 228 5. Differential Treatment . •.• .-229 5.1.. Public Policy/Security.. .229 S:2v Biseriminati@n a9-±flst of prov±n& e/ s t a t e Companies .230 5.3. "Right to Exit"...: ..230 6. Maximal versus Minimal Coordination 231 6.1. Flexibility of Enterprises under the Treaty....... 231 xvi--6 . 1 . 1 . Framework facilitating Cooperation of Enterprises ...231 ' ' (i) Harmonisation Programme . . 2 3 2 (ii) European Company Statute... 233 6.1.2. Preservation cf Diversity under the FTA....234 6.2. Mergers and Acquisitions 236 6.2.1. Divergent Antitrust Policies under the FTA.................... . .....237 6.2.2. Coherent Application of Merger Control under the Treaty. ....239 7. Constraints on Sovereignty .....242 7.1. Transfer of Sovereign Rights under the Treaty..... 242 7.2. Minimal Restraint of Sovereignty under the FTA....244 8. Individual Rights. .. . . .245 8 . 1 . Rights Granted under the Treaty...................245 8.2. Deliberate Omission under the FTA 246 9. Conclusions............... 246 IV. RECOMMENDATIONS. . . . 248 1. Decrease of National Restrictions.. ......248 2. Increase of Legal Certainty....... 251 2.1. Legal Framework for Mergers and Acquisitions......251 2.2. Legal Framework for the Cooperation of Enterprises... .254 3. Strengthening of Political Will. ......;........254 XVII CONCLUSION ..... 257 BIBLIOGRAPHY . .... . . .261 INDEX OF CASES . . .270 INTRODUCTION I. OVERVIEW Foreign direct investment ("FDI") has become increasingly important in the international trading system. It is usually defined as a transfer of business assets from a source country enterprise to a host country enterprise, where the former generally retains control over these assets.1 These investments are primarily effected through a subsidiary corporation enacted under the laws of the host state, but owned or managed by the source country enterprise or through the establishment of joint ventures by sharing control between source and host country enterprises.' Therefore, multinational enterprises (the "MNEs") generally defined as a combination of companies of different nationalities, connected by means of shareholdings, managerial control or contra-t and constituting an economic unit,3 are the 1 see G. -Schwarzenberger, Foreign Investment and International Law '(London: Stevens & Sons, 1969), 16;.. International Monetary Fund, Balance of Payments Manual, 4th ed. (1977), para. 408. 2 R.K. Paterson, Canadian Regulation of International Trade and Investment. (Toronto: Carswell, 1986), at 289. . 3 J.J. Jackson £ W.J. Davey, Legal Problems of International Economic Relations, 2. ed., (St. Paul: Vsst Publishing Co., 1986) , at 1047 -49; CNT SmittholfT "The.\ Multinational Enterprise in. the United Kingdom" ir\ Nationalism and the Multinational Enterprise: Legal. Economic And Managerial Aspects [hereinafter "Nationalism"] H.R. Hahlo et al. (eds.) (Leiden, Neth.: A.W. Sijthoff Publ., 1973) 22 at 24. 2--r major actors in this field. Today, some 500 MNEs control over half of the world's exchange of manufactared goods and services FDI became a major instrument to enter a foreign market as tariff and non-tariff barriers may constitute serious hindrance^ to entering a particular market. It does not only avoid trade impediments: direct investment provides specific advantages over exports such as more facile adaptation to local tastes and specifications; easier maintenance of the market share; and rebuttal of the nationalistic behaviour of a particular market. In areas of high transportation costs FDI makes the products more competitive. The "internationalization" of entities through operation in various countries may also increase the firms competitive advantage. In contrast tp licensing agreements, the production and management through subsidiaries enables the parent company to preserve its specific expertise. In addition, MNEs contribute to the exploitation of economies of scale,5 It is well established that most direct investment takes place between countries that trade a large quantity with each A J. H. Dunning, "The Multinational Enterprise: The Background11, .The Multinational Enterprise, J.H. Dunning (ed.) (New York: Praeger Publ., 1971) at 15-19A; A. M. Rugman,-"Multinationals and the Free Trade Agreement", Trade-Offs on Free Trade: The Canada-U.S. Free Trade Agreement, M. Gold S D. Leyton-Brown (eds,) (Toronto: Carswell, 1988) 4, at 1L. . • 5 H. Johnson, "Economic Benefits of the Multinational -Enterprise", Nationalism, supra note 3, '165, at 167-70. . 3 -j other than between countries that trade little.6 Thus, it is rather a stimulus than a substitute to trade so that with the considerable progress which has been made in establishing international rules to liberalize trade in goods FDI increased rapidly in the industrialized countries in the postwar era. Nonetheless, much uncertainty revolves around its regulation, which creates a growing international concern. Such uncertainty is primarily based 011 the rather political nature of EDI. Foreign ownership of local industry, involves political reactions which do not occur in the case of trade in foreign-owned goods or even in the trade of services. It leads to the concern of host governments that foreign ownership may result in economic dependence and thus, may constrain their sovereignty,7 The implementation of national control mechanisms on FDI is the usual reaction of host country governments which create undesirable barriers to direct investment activities undertaken by source country investors.8 However, a positive investment climate enhances economic growth since it increases competitiveness, enhances economies of scale, employment 6 D.F. Burgess, "A Perspective on Foreign Direct Investment", Perspectives on a Canada-U.S. Free Trade Agreement, R.M. stern et al. (eds.) (Washington, D.C.: The Brookings Institute, 1987J 191, at 204. 7 . Gee in general R. Vernon, Storm over the Multinationals: The Real Issues, {Cambridge: Harvard University Press, 1977) 8 J.J. Jackson & W.J. Davev. supra note 3, at ig^B-zy. opportunities, and the tax bass.1 Thus, it is of common benefit to solve the conflict between the interest of the foreign investor to liberalize FDI through the elimination of national laws of host countries controlling the entry and the operation of direct investment. These aspects were obviously illustrated, when in the mid-seventies FDI experienced a rather scant growth primarily caused by restrictive host country policies.10 It then was internationally recognized that a prevalent and "commonly used format in this field was needed to liberalize investment flows. This recognition found expression in both the Canada-United States Free Trade Agreement (the "FTA")'2 constituting the world's largest free trade area and the Treaty establishing the European Economic Community (the EEC")13 as amended and 9 supra note 5. 10 OECD, International Investment and Multinational Enterprises: Recent International Direct Investment Trends (Paris: OECD, 1981), at 8-11. R.K. PataK&QD,, supjsa note 2, a± 2.8,9* 12 The Canada-United States Free Trade Agreement, December 22, 1987, and January 2, 1988, H.R. Doo. 216 100th Cong., 2d Sess. 297 (1988), reprinted .in XLM 281 (1988). 13 Treaty establishing the European Economic community (signed in Rome on March 25, 1957) [hereinafter the "Treaty" or • the "Treaty of Rome"]. completed by the Single European Act (the "SEA")14 aiming at the creation of an internal market by the end of 1992. It is of great significance to analyse how the world's most important economic players dea'it with the issue of FDI liberalization, First, FDI is primarily exercised by MNEs which are most frequently a product of industrialized countries, in particular the U.S. and Europe. There are over 10, 000 MNEs but the largest 500 coming mainly from Europe and the U.S. (besides Japan) account for at least 80 percent of all FDI,15 Second, since these two international agreements involve two of the world's triad powers (the European Community, the U.S., and Japan) they are of considerable importance in the international arena. • The comparative study of these two agreements will demonstrate that the Treaty is the more comprehensive legal system, whereas the ETA shows a rather fragmented accord on the most vexing investment issues between the U.S. and Canada failing to provide a profound FDI liberalization. Thus, the Treaty furnishes the more appropriate regime to make FDI among the Member States most beneficial to both home and host country which will enhance their economic prosperity. .... : . ' It has to be kept in mind, though, that the two agi-eements Single European Act, signed at Luxembourg on February 17, 1986 and at The Hague oh February 28, 1986, EC O.J. L 169, June 29,, 1987. 15 K.P. Sauvant, Controlling Multinational Enterprises. K.P. Sauvant, F.G. Lavipour (eds.) (London: Wilton House Pub., U97&) at 8; A.M.. Rugman, supra note 4, at 11. take a rather different approach to the reaulation of FDI based on their divergent objectives and legal natures. The Treaty as amended by the SEA is based on a customs union aiming at the creation of a fully integrated common market, whereas the FTA establishes a free trade area which is the loosest form of economic association with minimal political integration. Taking into account the high degree of industrialization of the countries concerned and based on the generally used definition of FDI, the analysis will entail three areas of major importance: i. the right of establishment; ii. the freedom of capital movement; iii. the regulation of competition, in particular concentrations. The numerous laws which have a bearing on EDI, such as securities and tax laws, state aids, government procurement, labour and employment laws, regulations on technology transfers and research and development will not be examined. Nor- will this thesis discuss the issues of expropriation and compensation since these aspects are of less significance among industrialized countries than between an industrialized country and a developing one. • It has to be underscored that any form of portfolio investment is not subject to this work. The analysis will focus • solely on the liberalization of direct investment among the parties to either agreement in industrial sectors, excluding financial service industries. XI. OUTLINE The thesis is divided into three parts. The first anc second parts will form the descriptive section of this comparative study and will examine the liberalization of FDI brought about by the Treaty as amended by the SEA and the FTA respectively. The third part will constitute the comparative analysis and provide the conclusion. 1. Descriptive Section The thesis consists in its descriptive section of two parts, the .fixst dealing with the liberalization achieved under the Treaty as amended and completed by the SEA, and the second examining the liberating impact of the FTA. Each part will entail the major issues regarding the process of the . . liberalization of FDI. The first section covering the EEC will be divided into three chapters as it is the more ambitious and comprehensive, approach. It will commence with an introduction comprising of a brief overview of the legal structure and objectives- of the EEC as set out under the Treaty and the reinvigoration of the Treaty-8 , goals provided by the SEA. In the first chapter the right of establishment pursuant to Articles 52 to 58 of the Treaty of Rome will be examined. These Articles are designed to provide individuals and companies with the right to engage in economic activities in any Member State. These provisions intend to remove internal barriers to free establishment and to enhance the co-operation between undertakings. Despite the measures on harmonisation and co-ordination taken under the Treaty, the exercise of the right of establishment for companies continued to be considerably limited and deterred because of the national divergencies of company laws. The SEA reernphasized the completion of the right of establishment by the end of 1992, providing several options in order to eliminate the impediments to the free establishment of companies. It will be concluded that the harmonisation of company laws o£ the Member States appears at this time to be the most advanced, although, a proposal of supra-natinna law provides the more comprehensive solution but is not yet adopted. The second chapter will entail an analysis of the liberalization of capital movements including capital transfers. It will take into account that this freedom is an indispensable element for the implementation of the right of establishment-as it is impossible to conduct any kind of business activity without the possibility to have access and to dispose of the necessary capital. • The provisions governing concentrations under Treaty provisions and a recently adopted Council Regulation on the control of concentrations between undertakings will be the subject of the third chapter. The main theme of this chapter will centre on the issue of the transfer of certain sovereign powers of the Member States to the Commission, the Community's executive organ, for the sake of the creation of an internal market with virtually undistorted competition. The second part will entail the analysis of the liberalization brought about in the field of FDI by the FTA. The analysis will commence with a discussion of the legal structure and the objectives of the FTA. The principle of national treatment underlying the regulation of direct investments in the Canada-U.S. free trade area and its impact on Canadian and American laws and regulations will be of primary interest. But since the National Treatment Principle contains a qualification, a variety of restrictions which impede directly or indirectly FDI in each others territory were maintained by both parties. The discussion of the grandfathering of existing discriminatory national legislation and of the provisions on. differential treatment in politically and economically sensitive sectors, as well as the omission of competition rules under the FTA will demonstrate the limited effect on the liberalization of FDI between the parties. 2. Comparative Section The comparative section in the third part of the thesis will entail the evaluation of the information provided by the descriptive section. The appraisal will show first, the more comprehensive coverage of all sectors of the economies of the 12 Member States, as opposed to the FTA which expressly excludes politically and economic sensitive sectors from its scope. A second point will be that the Community imposes an obligation of complete non-discrimination on Member States. In addition, it provides for the legal basis facilitating the co-operation of undertakings through the harmonisation of discriminatory national laws and practices of Member States and through the possibility to adopt supra-national instruments governing this issue. The FTA deliberately abstains from such ambitious objectives.- Instead, it provides for exceptions to non-discrimination under tho grandfather clause for existing laws, regulations, and practices and protects other national control mechanism restricting FDI. Third, the differential treatment under the Treaty as amended by the SEA exists only to the extent that national security interests of the Member States are concerned or in the form of transitional measures for "new" Member States for reason of smooth adaptation. In contrast, the FTA leaves ample room to maintain or even introduce protective measures of one party vis a vis the other. Fourth, the examination of constraints on ' 1 1 —jr national governments will show that the legal order of the Community goes much further in the restraint of Member States' sovereign powers to make law whereas the FTA ensures that th«re will be no restrairt of the parties' sovereign powers. Fifth, the provision for individual rights establishes an outstanding feature under the Treaty which does not find a counterpart under the FTA. The advantage of an "internal market" as set out under Article 8 A will be found in the more rational exploitation of economic resources and the increase of competitiveness and economic growth which is established by the interdependence of tlie Member States' economies. It will be submitted that the broader scope of direct investment liberalization and the elimination of internal barriers as established by the Treaty of Rome as amended by the SEA provides for a more fundamental liberalization of FDI. Although the FTA creates preferences among its Parties, it leaves ample opportunity to evade true non-discrimination. As a consequence, the liberalization of FDI under FTA remains far behind the ultimate aim to reach an increase of prosperity and economic crrowth bv means of international rules based upon the principle of unconditional non-discrimination.16 16 see with respect to trade liberalization the principle as set out under the General Agreement on Tariffs and Trade in Article 1:1 [hereinafter "GATT"]. 12- -• —j? This assumption will not be made without some reservation. As mentioned earlier, the EEC adopted a different legal framework in order to achieve economic prosperity in an enlarged trade and investment area and pursued different objectives than the parties to the FTA. A divergent regulation of FDI is the necessary consequence. However, this divergence should not inhibit the negotiators and drafters of the FTA to consider and learn from experiences under the Treaty and the new steps taken under the SEA. Since it is viewed to be likely that the FTA, once fully implemented, will evolve through further negotiations,17 the experiences made under the Treaty as amended by the SEA, can be of true value to its further development. This holds true especially for the comprehensive coverage of FDI liberalization, the legal framework facilitating the cooperation of enterprises, and the coherent enforcement of competition laws governing mergers and acquisitions. III. RESEARCH METHODOLOGY The research methodology underlying the thesis is based on the principles of comparative law. Comparative law can establish an aid to the legislator in the field of law reform, it provides a tool of construction, and it contributes to the systematic Statement of the Economic Council of Canada "Venturing Forth: An Assessment of the Ca?iada-U.S. Trade Agreement" (Ottawa: Minister of Supply and Services. 1988) at 4. 13 unification of law.18 As both agreements, the Treaty and the FTA, attempt to attain liberalization of national protectionist legislation on FDI the comparative research is of particular value for this work as it will help to indicate the more profound liberalization of FDI. The comparative analysis will demonstrate whether the common market of the EEC or the free trade area of Canada and the United States is more effective. The advantages and disadvantages of each system will be discovered and a larger choice of nev: instruments which could improve the existing regulation ft/i. FDI will be provided. 18 K. Zweigert, H. Koetz An Introduction to Comparative Law. Vol.1: The Framework (Amsterdam: North-Holland, 1977) at 12— 15. " v. 14 -j" PART I INTRODUCTION OBJECTIVES OF THE TREATY OF ROME AS AMENDED BY THE SEA I. LEGAL STRUCTURE AND OBJECTIVES OF THE EEC The initiative leading to the SEA has to be seen in conjunction with what had been established by the Treaty. The SEA is not a completely new instrument which genuinely establishes an internal market in 1993 but it simply constitutes a continuing process of what had started in 1957 with the signature of the Treaty of Rome. Thus, the objectives of this Treaty need to be introduced to fully understand the position of the EEC on the liberalization of FDI throughout a common market. l. The Treaty of Rome The Treaty of Rome came into force in accordance with Article 247(2) of the Treaty,1 on January 1, 1958. It,is undoubtedly the most important of the three European Communities, the European Atomic Energy Community (the "EURATOM") founded in 1957/ and the European Coal and Steel Community (the "ECSC") established in 1951, which formed a single unit since the merger 1 All Articles cited in this Introduction shall be presumed to be from the Treaty unless otherwise indicated. • a w 15 — of their respective institutions was accomplished by the Merger Treaty in 1967.2 With this Treaty the Member States were pursuing the common aim to establish an extensive integration of their markets. Because all partners were bound at that time by the GATT, this goal could only be reached by compliance with the GATT provisions. Its Article XXIV:8(a) provides for the creation of a customs union as an association of nations with duty free treatment for imports from members and a common level of external tariffs for imports from nonmembers.3 It explains the choice of a customs union as a basis for the Community, as expressed in the Treaty.4 This basis has been complemented by provisions which extend the customs union to what is called a "Common Market". The Treaty fails to define this term but uses it frequently in its provisions. Scholars developed a variety of definitions of a "Common Market" based on the context in which the Treaty uses the term. It is often defined as "the equivalent of an area in which goods, people, business enterprises, services and capital can move from Member State to Member State, untrammelled either by governmental restraints or by private restrictions on access to 2 Treaty establishing a Single Council and a Single Commission of the European Communities [hereinafter "EC"], ^^ the European Communities, No. 152, July 13, 1:967. 3 see for further detail on the interesting issue on the compliance of the EEC with Article XXIV:8(a) of the GATT, P. Kay "The European Common Market and the Most-Favored-Nati'on Clause" 23 Pitt. U. L. Rev. (1961-62) 661-84. 4 Art. 9. ' ^J'f t v , , ,, ;ri~n i r n T T W T W T f ^ 1 V r 16--markets or supplies".5 Today, the Treaty established "Common Market" is viewed to constitute an economic union, in which the free movement of goods, persons, services, and capital is provided complimented by a common custom tariff and a complete harmonisation of economic policies.' The provisions generating this effect are: - the freedom of establishment, with the ensuing free movement of persons, the freedom to provide goods and services; - the free transfer of money, first of current payments and later of capital; - common rules on competition applicable to Member States and private undertakings alike; - general rules on non-discrimination; - coordination of economic policies and harmonisation of economic legislation; and 5 Smit/Herzog, The Law of the European Community: A Commentary on the EEC Treaty. (New York: Matthew Bender, 1976, 1981, 1986, 1988, 1990) Vol. 1, para 2.04. 6 P. Pescatore, "Some Critical Remarks on the Single European Act", 24 CML Rev. 9 at 10 (1987), although other commentators place the "Common Market" between a free trade area and an economic union establishing a substantial freedom of movement with a high level of policy harmonisation, see R.K. Paterson. Canadian Recmlation_ of InternatiomL^TradejLand Iia«e«±itasnt, (Toronto: Carswell, 1986) at 183, it appears that over time the "Common Market" developed inte what is sailed "economic union". - a common commercial policy with third countries.7 17-The objectives of the Treaty may be summarized as the creation of a Common Market embracing all Member States, within Which the economic forces of supply and demand operate freely though national sovereignty and political frontiers are retained. However, the Community as established under the Treaty did not fully achieve these aims.8 The foreseen integration came to a halt when Member States focused on national interests in order to overcome economic difficulties due to the oil crisis of the 1970s. It was only in the 1980s that this "stagnation" of integration was surmounted by the Commission's initiative to issue the White Paper in June 1985, a blueprint for the creation of a single European market by the end of 1992.® 2. The Impetus of the SEA The White Paper provided the initiative to the subsequent adoption of the SEA on February 17 and 28, 1986.10 It contained 7. see Preamble and Art. 1 to 8. B. R. K. Paterson. Canadian Regulation on International Trade and Investment (Toronto: Carswell, 1986) at 183. . 9 Commission of the European Communities: Completing the Internal Market. White Paper from the Commission to the European Council (Luxembourg: Office for official Publications of the EEC, June, 1985) [hereinafter the "White Paper"]. 10 EC O.J. No. L 169, June 29, 1987. 18 -j. . a comprehensive programme of legislative proposals to overcome obstacles to trade and investment within the Community laying out a precise timetable for the adoption of each of them. These proposals were classified in three categories: - the removal of physical barriers (border controls on the movement of goods and people); - the removal of technical barriers (any national rules impeding the cross-border sale of goods and services); - and the removal of fiscal barriers (national differences in value added tax and excise duties).11 This rather broad classification is based upon the overt discrimination in national border controls, the discrimination of national laws of general application by making it more difficult for non—nationals to enjoy the freedoms set cut by the Treaty,1 and the insufficiency of national laws which are not suited for cross-border activities such as company and competition laws.12 The White Paper received legislative support in the SEA endorsing the deadline of December 31, 1992 and providing considerable, improvements in the decision-making process of the community in 11 White Paper, supra note 9, pt. 10. , ' 12 ibid., pts. 11-34, 136-45 (company laws), 152-59 (competition policy). ' order to meet the deadline.13 The objective of the SEA was to draw upon the united strength of the Member States in order to increase their economic growth, stability and prosperity_ p Q r the implementation of this objective three aspects received high priority: - the welding together of the twelve individual markets of the Member States into one single market of 320 million people; - the expansion of this internal market; - and, to this end, the flexibility of this market so that resources, such as capital and investment, can flow to the area of the greatest economic advantage.14 The underlying idea of the SEA was that through the mutual dependence and support of Member States which, in turn, would require the removal of the national barriers, the operation of the Community as an integrated market could b e established. Thus, the removal of still subsisting national barriers and the harmonisation of national rules constitute major components of the completion of the internal market. The drafters of the SEA used for the legai basis to eliminate by 13 see Arts. 8A-C, lOtiA-B inserted by Arts. 13-15, 18, 19 of the SEA establish a mechanism which enhances and facilitates the adoption of measures to implement the objectives. Of the SEA through the adoption of measures by a qualified majority vote. 1A see White Paper, supra note 9, pt. 8. 2 0 — -' ' ' the end of 1992 all restrictions on the above mentioned freedoms the term "internal market".15 Unlike the term "Common Market" the term "internal market" is specifically defined. Article 8A . provides; "An internal market shall comprise an area without internal frontiers in which the free movements of goods, services and capital is ensured in accordance with the provisions of this Treaty." This definition caused strong criticism, in particular because the reference to the absence of "internal frontiers" would indicate that the completion of the "internal market" referred only to government restraints on these freedoms and not to the elimination of private restrictions which would "mark a severe setback for the European Community".16 This critique appears, at least for the subject matter of this study, unjustified as will be demonstrated in the Chapters of Part 1.17 The SEA brings a new impetus to the objectives already set out by the Treaty rexdving the approach to long-standing community issues such as harmonisation of national company laws, merger control, complete liberalization of capital movements, tax harmonisation and monetary union of which the first three topics will be of particular importance to this work. 15 Art. 8A was inserted by Art. 13 of the SEA. -16 .. P. Pescatore, supra note 6, at 9, 16-17. 17 see also C. Ehlermann, "The Internal Market following the Single European Act", 24 CML Rev. 361-404 (1987) with a comprehensive response rejecting this criticism. gSjjgS • ' ' SMm ri~rrnl-i !j~n"O'lT j -u « a1 u' 'Vtn'Cp'r •- §§81 \jSiy > jj .A.x-t .Ml J- i '.via. wm 21- -XX. LEGAL ORDER OF THE COMMUNITY In order to demonstrate the inpact of the measures taken under the Treaty and the SEA it is important to understand its nature, Status and in particular, the direct effect and application of Community law. 1. Nature and Scope It is well-established that Community law is subject to public international law and establishes a variety of international, municipal, public and private law. It is an independent legal order with its own body of law which was established through the transfer of the Member States1 sovereign rights to make law in certain areas to the Community. In addition, the three treaties establishing the EC consist of a provision which enables the EC to take whatever measure it deems necessary in order to implement its objective.18 Thus, Community law is rather broad in its scope. 2. Direct Application and Direct Effect There are three different types of Community law. First, Community provisions that are intended to be implemented by 18 Art. 235; ECSC Treaty, Art. 95; Euratom Treaty, Art. • 203. •.' 22 national legislation but which, in the absence of such implementation, can be relied upon by individuals in national courts. They are referred to by the European Court of Justice (the "ECJ") as directly effective.19 In its leading case20 the ECJ ensured that Community provisions may give rise to rights enforceable by individuals in national courts and that these provisions receive a coherent effect and validity in all Member States. The ECJ also assumed jurisdiction over these matters. This direct effect of Treaty provisions in the absence of implementation, in particular by Directives will be encountered in all subsequent chapters of Part I. Second, Community law can be implemented by Regulations which will be important in the chapters on merger control and the creation of a European Company, and third by Directives as discussed in the chapters on the harmonisation of company laws and on the completion of free capital movement. Regulations (and Decisions) of the Council and Commission enacted pursuant to the Community Treaties, are directly applicable in all Member States, with binding legal effect.21 Thus, -they are automatically incorporated into the legal systems of the Member States and have the force of law without the need for any national implementation. In contrast, only the objective 19 see leading case, Eur. Ct. of J. Case No. 26/62 N Algemene Transport-en Expeditie Onderneming van Gend en Loos v. Nederlandse Tarief Commissie•[1963] ECR 1. 20 ibid., at 12. 21 see Art. 189(2), (4). ' 23 of a Directive is binding on the Member States. It is left to the national governments to choose the form and method of implementation.22 However, implementation has to be accomplished within a specific time period. In cases where a Directive has not been implemented by the deadline, certain provisions of the Directive may become directly effective and can be invoked by individuals in national courts.23 This direct effect is primarily due to the binding effect upon Member States contributed to a Directive by Article 189.24 3. Doctrine of Supremacy The relationship between Community law and national laws established for a long time an ambiguous issue. The ECJ eventually established through its case law the doctrine of the supremacy of Community law. As a consequence, all Community law which is directly applicable25 or directly effective26 prevails within the national legal order over existing incompatible 22 Art. 189(3). 23 Eur. Ct. of J. Case No. 41/74 Van Dyn v. Home Office [1976] ECR 1337. 24 ibid. 25 see Eur. Ct. of J. Case No. 34/67 Firma Gebrueder Luck v. Hauptzollamt Koeln-Rheinau [1968] ECR 245 at 251; Case No. 167/73 Re French Merchant Seaman, EC Comm. v. France [1974] ECR 359 at 371. 26 see Eur. Ct. of. J. Case No. 148/78 Pubblico Ministero v. Tullio Ratti [IS/9] ECR 1629 at 1641-42; Case No. 41/74 van Dyn v. Horns Office [1976] ECR 1337 at 1348. national law. 24 III. COMMUNITY INSTITUTIONS Finally, three of the four most important Community institutions, consisting of the European Council (the "Council"), the European Commission (the"Commission"), the ECJ and the European Parliament27 will be briefly introduced since they play a significant role in the regulation of FDI within the Community. The Council and the Commission are the major actors in this field. The Council consists of the Prime Ministers of the Member States28 and establishes the decision-making body.29 It has legislative power to adopt Regulations, Directives, Decisions and Recommendations pursuant to Article 189. Thus, the Council has the final decision on liberalization measures of FDI. The Commission formulates Community policy, prepares proposals of legislation to be adopted by the Council, it implements decisions of the Council and supervises the. ongoing Community policies. Finally, the Commission ensures compliance 27 The functions of the European Parliament (and also the role of the Economic and Social Committee) shall be omitted from this discussion as they are'not immediately relevant to the subj ect.matter. 28 Art. 146. Art. 145. 25--with community law through the initiation of actions against" Member States, companies and individuals.30 The Commission comprises 17 Commissioners appointed by their national governments but acting independently from their governments during their tenure. The Commission being the executing body has consequently a large impact on the achievement of Community goals. The ECJ plays a significant role in the Community law making process.31 it ensures that through the application and interpretation of the Treaty the law is observed.32 The decisions of the ECJ establish the case law of the Community and are legally binding on individuals, Member States and their authorities, and Community institutions.33 The ECJ has jurisdiction in cases of Treaty violations of Member States, to review the legality of acts or omissions of Community organs, and to generally oversee plain Community matters.34 Subsequently, the ECJ contributes to the creation of legal certainty in areas in which the Treaty is silent. 188. 30 31 32 33 34 Art. 155. see for the role and function of the ECJ, Arts.164-Art. 164. Art. '173..' ' ' • •••••:.•.•. see Arts. 173-183. • 26-CHAPTER X THE COMPLETION 01' TH1 FREEDOM OF ESTABLISHMENT OF COMPANIES I. INTRODUCTION The Treaty establishes, under Articles 52 to 58,' freedom of establishment for individuals and companies throughout the Community. This freedom of establishment covers the right to set up and manage undertakings under the conditions laid down for its own nationals and companies by the law of the country where such establishment is effected. For its implementation, restrictions on the free establishment of nationals and companies of one Member State in another shall be abolished in progressive stages. This abolition applies to restrictions on the setting up of agencies, branches or subsidiaries by nationals and companies of any Member State established in the territory of any Member State. Articles 52 and 58 provide individuals and companies with the right to engage in economic activities throughout the EEC. Commercial entities" and individuals shall have the flexibility needed to achieve the most effective utilization of resources in order to strengthen their capacity to compete with companies from All Articles cited in this chapter shall be presumed to be from the Treaty of Rome unless otherwise indicated. . 27.„. outside the EEC and to advance economies of scale.2 To this end, the Treaty foresees that internal barriers to free establishment have to be removed through non-discrimination and harmonisation of national laws. Thus, prior to the SEA initiative, non—discrimination was already fully achieved under the Treaty. However, the exercise of the freedom of establishment remained limited or deterred due to the divergence of national company laws, Although, harmonisation directives3 and other legislative proposals4 were introduced under the Treaty this impediment continued to exist. With the initiative of the White Paper5 and the adoption of the SEA the objective to realize complete freedom of establishment experienced a new impetus. Thus, several existing proposals were extended or redrafted6 and 2 EEC Commission, Action Programme of the Community for the second Stage, at 17, para. 19 (Brussels, Oct. 24, 1962). 3 see First, Second, Third, Fourth, Fifth, Sixth, Seventh, Eighth and Ninth Directive, see text and notes accompanying section IV.1. & 2; Tenth Directive COM (84) 727. 4 Proposal on The European Economic Interest Grouping COM (73) 2046, COM (78) 139; Draft on the European Company Statute, EC O.J. 1970 C124. 5. Commission of the European Communities, White Pap.er from the Commission to the European Council on "Completing The Internal Market", June 1985, points 133-144. 6 the Fourth and Seventh Directive EC O.J. 1986 C144/10; the Tenth Directive, the Regulation No. 2137/85; Draft on the European Company Statute, see notes and text accompanying section IV.1.& 2. new proposals were made7 in order to fully achieve this objective. This chapter will examine the degree of liberalisation of the right of establishment provided by the Treaty as completed and amended by the SEA. The scope of the freedom of establishment reached under the Treaty provisions themselves, and the legal framework facilitating the co-operation between enterprises through harmonisation directives and proposals on supra-national law under Article 235 will be examined. As mentioned above, this objective was reemphasized under the SEA initiative. The analysis will demonstrate the advanced integration of the Common Market achieved under the Treaty as amended and completed by the SEA. The many laws which have a tangential bearing on the right of establishment such as tax laws, social security, locus standi, credit and borrowing of funds, grant of subsidies, and all rights related to land and personnel, commercial, and industrial property will not be considered. This chapter will focus exclusively on company laws, since a comprehensive analysis of all legal issues would be far beyond its scope. see Eleventh, Twelfth, Thirteenth Directive, see notes and text accompanying sections IV.1. & 2. «J-- - - \ 29--II. SCOPE OP THE RIGHT OP ESTABLISHMENT, ARTICLES 52 TO 58 l. Basic Principles 1. 1. Standstill Article 53 prohibits Member States from introducing new restrictions on the right of establishment. Moreover, any liberalization measures in force in Member States cannot be revoked.8 Since Article 53 has direct effect,9 a virtual standstill of restrictions was successfully achieved with the entry into force of the Treaty in 1958. 1.2. National Treatment Principle Articles 52 to 58 provide for the implementation of the National Treatment Principle as set out in Article 710 in the area of the right of establishment for individuals and companies. Accordingly, Article 52 provides that laws, regulation and practices in the Member States that discriminate between nationals of the regulating State and nationals of the other Ex parte J. N. Royer, Reports of Cases before the Court, Case No. 48/75, Vol. 76-3,497. 9 ... see supra Part I, Introduction, section II.2. 1 0 . Art. 7(1) reads: "Within the scope of the application of this Treaty, ..., any discrimination on grounds of nationality shall be prohibited." ' 30--Member State be eliminated.11 Hence, the Treaty rejects two other possibilities frequently used in conventional treaties on establishment: the rule of reciprocity or the most favoured nation clause. The scope of the right of establishment goes beyond the usual content of a conventional bilateral commercial convention. The Treaty prescribes the abolition of all restrictions on the freedom of establishment throughout the EEC, so that any treatment which is different from that accorded to nationals is discriminatory, regardless of whether it stems from legislative or administrative measures.12 In contrast, the conventional bilateral agreements cover in general only a specifically enumerated number of rights. 1 .3. Harmonisation of Laws In addition to the guarantee of the National Treatment Principle, the Treaty establishes that the same requirements for establishment in any given sector in each Member State shall be provided in recognition of the fact that freedom of establishment 11 see also Smit/Herzocr. The Law of the European Community A Commentary on the EEC Treaty (New York: Matthew Bender, 1976, 1981, 1986, 1988, 1990) Vol. 2, para. 52.04; A. piot, "Of Realism in Conventions of Establishment", J. du Droit Int'l. 1961, 39 at 69. 12 - • • • . • • . . . : • • • : . . • • . J. Temple Lang, "The Right of Establishment of Companies and Free Movement of Capital in the European Economic Community", in International Trade. Investment and Organization (Chicago: University of Illinois press, 1967) W.R. LaFayne & P. Hay (eds.) 1967, 289 at 307; CCH C.M.R. at 1076. 31---jf can be hampered by measures that do not discriminate against nationals of another Member state than the regulating State as such. These would be measures which by their terms are applicable to nationals of another Member State and nationals of the regulating State alike and thus, fully abide to the national treatment principle but can have a discriminatory effect if individuals or companies of another Member State are practically unable to comply with the requirements imposed by the regulating Member State.13 This may occur where differences in national company laws impede the recognition in a Member State of companies established in another Member State. In order to ensure equal conditions for enterprises, the Treaty provisions on the right of establishment provide therefore for the harmonisation of non-discriminating provisions and practices in effect in the Member States.14 This is based on the idea that an undertaking eligible to enter a commercial or industrial sector in one Member State should be entitled to do so in all other States of the EEC.15 . see D. Vaughan, Law of the European Communities (London: Butterworths, 1986) vol. 2, para. 16.24; Smit/Herzog, supra note 11, para. 52.04 & 57.03. K. Art. 54:3 (g) regarding companies within the meaning of Art. 58 and Art. 57:2 regarding self-employed persons. 15 J. Temple Lang, supra note 12, 289 at 295. 32--2. Direct Effect of the Treaty Provisions with respect to the National Treatment Principle The principles of national treatment and harmonisation of laws were adopted by a General Programme in 1962.16 This Programme envisaged the elimination of restrictions applying to the establishment by nationals of any Member State by the end of the transitional period, i.e. December 31, 1969.17 It covered all legal and administrative rules, or administrative practices which would result in any prohibition of or impediment to the access or the exercise of independent activities by nationals of another Member State, and thus would amount to differential treatment between these nationals and the nationals of the regulating State. Directives implementing the National Treatment Principle were the so-called liberalization directives. Furthermore, the programme laid down the grant of all facilities usually available to nationals in these fields18 which was to be achieved by the so-called harmonisation 16. General Programme for the Abolition of Restrictions to Freedom of Establishment [1962], J.O. 36 [hereinafter the "Programme"] . Art. 54 .. Eur. ct. of J. Case [1986] ECR 273; Eur. Ct. of Bedrijfsvereniging, [1986-7] 18 No. 270/83 Commission v. France, J. Case No. 79/85 Segets v. ECR 2375. 33 --directives. Although, the Council had adopted a number of directives, by the end of the transitional period several fields of economic activity were left for which the council had failed to issue directives. Since the General Programme was not legally binding on the Member States but had to be carried out by directives issued by the Council, certain objectives of the Programme were not achieved, among other the liberalization of the establishment of companies. Thus, the question arose if Article 52 should become directly effective in the Member. States, so that it would not require any enac tmen t 1 9 and nationals could rely on legal rights directly conferred to them by Article 52 in national courts. The ECJ decided the issue iA favour of the direct effect of . Article 52 in the Reyner's case:20 When a Member state excluded a national from another Member State from the exercise of the profession of an avocafc, arguing that the Council had not yet issued a directive implementing ec^ual treatment for the exercise of this profession, the ECJ ruled that after expiration of the transitional period, Article 52 became directly effective in thS Member States. Consequently, the directives providing., for. non-•9 Eur, Ct. of J.. Flaminio Costa v. E.IJ-E-L. , Case No. 6/_6.7„ ECR [1964],, 1141. 20 Eur. Ct, of J. Case No 2/74 Reyners v. Belgian State [1974-5], ECR 631. When a Member State excluded a national frcrai . another. .Member State from the profession of avocat, arguing that the Council had not yet issued a directive on that profession, the Court of Justice ruled that, after the expiration of the transitional period, the Article 52 is directly applicable in the Member States. . . •.:'••.••.••''• > U LUU.U O. LILQ £ 34_. discrimination under Article 54 became superfluous. However, the adoption of directives continued to be necessary for the harmonisation of any internal arrangements left unchanged by the application of the rule of national treatment. 3. Prerequisites of Articles 52 and 58 3.1. Beneficiaries The beneficiaries of the free establishment of companies within the territory of the Community21 are either nationals of one Member State22 or companies "formed in accordance with the laws of a Member State having their registered office, central administration or principal place of business within the Community".23 3.1.1. Individuals. Article 52(IV Individuals enjoy the right of establishment of companies and firms pursuant to Article 52(1). They have to be nationals of one of the Member States as determined by their national laws. Nationals are only perceived as physical persons. The territory of the Community comprises the territories of the 12 Member States and also the European territories for whose external relations a Member State is responsible, Art. 227:4. Art. 52(1). Art. 58(1). li—'..V..-. .iw.utisS'Sf Uieyj-.L.'i.i^'AlLii!! • -'V.'—sfi .' C 1 - • i1""'1^ • • • 35--3.1.2. Companies or Firms. Article 58(21 Article 58(2) determines the meaning of "company" on the Community level as it differs throughout the. Member States. In some Member States partnerships, limited partnerships or various-forms of corporations are considered "companies". These "companies" may be treated as having legal personality, though members of the "company" do not enjoy limited liability. This situation gave rise to doubts as to vrhether companies having legal personality in their home state can benefit from the Treaty provisions. It is generally accepted that Article 58(2) must be read in its broadest definition. Legal personality is not required as long as che entity is able to carry legal rights and obligations.24 Covered are all types of economic organisations having as their purpose a profit making activity including the production or distribution of goods and services which is extended to insurance companies, since it is sufficient that profit is sought to some extent.25 Excluded are political, cultural, religious, charitable, and social associations that have no identification with the objectives of the Treaty.26 24 see CCH C.M.R., para. 1335-2; Smit/Herzog, supra note 11, para. 58.04. _25. Salomonson, "Problems and Experiences in the Application of the Treaty of Rome to the Insurance Industry", 4 C.M.L.R, 289, at 299 (1966). 26. CCH C.M.R., 1335-2. • • 36 Furthermore, the companies have to be established under commercial or civil law and can be governed by public or private law.27 This broad definition of entities in which tt-profit-making activity is the decisive feature complies fully with the objective of the Treaty provisions on the right of establishment of companies to increase economic integration throughout the Community. 3.2. Requirements for Companies. Article 5Bfl)'. Once a company or firm comes under the definition of Article 58(2) the entity must also satisfy two further cumulative conditions as set out under Article 58(1). 3.2.1. Formation in Accordance with National Laws First, a company or firm must be formed in accordance with the laws of the Member State where the establishment is effected. This criteria seeks to ensure that companies benefitting from the right of establishment have a direct legal link to one Member State. The companies have to be formed under the laws of a Member State and be'subject to these laws. For example, the articles of association have to comply with the requirements or the registration has to be effected pursuant to the regulations of the Member State. 27. This is of particular importance to France and Italy, since their largest automobile companies are state controlled. 37— -3.2.2. Registered Office. Central Administration, or Principal Place of Business within the EEC Second, it must have a registered office, central administration or principal place of business within the Community. Under the Treaty definition the registered office is located at the place designated as such in the incorporation papers, the central administration is located where the company organs issue decisions that are essential for the operation, and the principal place of business is the place where the company has its principal operational facilities.28 Thus, it is clear that the Treaty rules out the application of the theory of control.29 Cause for dispute gave, however, the question whether these three elements apply cumulatively30 or alternatively. This 28 Smit/Herzog, supra note 11, 58.05; J. Temple Lang, supra note 12 at 299. 29 Pursuant to the theory of control the criteria by which a company belongs to the EEC would be determined by nationality of the owners of the capital or of the directors and managers, see also Randelzhofer. Kommentar zum EWG-Vertrag. E. Grabitz (ed.) (Muenchen: C.H. Beck'sche Verlagsbuchhandlung, 1988) 2nd Ed.,Art. 58, Rn. 8;' J. C. Seche "The Right of Establishment, and Freedom to provide Services under Community Law" in European Economic Community: Trade and Investment (New York: Matthew Bender, 1986) J.J. Norton (ed.), para.11.02 [1]. It is interesting to note that therefore subsidiaries of companies from third countries incorporated in a Member State qualify for establishment. 30 see Y. Loussouarn,. " La liberation de 1'etablissement dans la'Communaute Economique Eurpeenne", 1 Rev. Trim. Dr. Com. 169 (1965); J. Audinet, "The Right of Establishment in the European Economic Community", 3 J. du Droit.Intll. 983 at 1017 (1959). • . ..•:••'•.•.••. vrT<n,ii"miiiTFr«ii>iii imniT'i n mm rrinn i iiin"~ivna 3 8 dispute rooted in the divergence of national laws of the Member' States which will be briefly explained in the following. (i) The Real Seat Theory: Under the real seat theory, which is prevalent in most of the continental Member States, a company can only be recognized if the real centre of the company's activity or 11s central administration where the main operational decisions are take^ (i.e. the "real seat")3' has moved to that State. The law of the company's real seat determines its legal existence and governs its internal affairs. It is an attempt to ensure that the majority of legal relations entered into by a company will be subject to the law of the state where' such transactions take, place. The application of foreign law shall be avoided to the largest extent. (ii) The Incorporation Theory: In Member States where the incorporation theory prevails,32 used is as well "actual head office" or "central piace of management" see E. Stein, Harmonization of European Company Laws: National Reform and Transnational Coordination, (Indianapolis: Bobbs-Merill Company, 1971), at 29; J. Temple Lang, The Common Market and Common Law: Legal Aspects of foreign Investment And Economic Integratloii in the European Community. with Ireland as a Prototype, (Chicago:"The University of Chicago Press, 1966) at 96. ' 3Z. such as Denmark, the Netherlands, Ireland and the United Kingdom; see I. C. G. Cath, "Right of Establishment of Companies", 6 Y. Eur. Law, at 253. MMMHMwriiMtifltgKMM^^  '• 39 --the foreign company is recognized as belonging to that Member State in which it has its statutory seat (i.e. registered office) in accordance with the laws of that Member State even though its real centre of activity is located in another country. Pursuant to this theory a company being formed under the laws of one Member State but establishes itself in another Member State continues to be subject to the legal system of that state. Furthermore, a company having its real centre of activities in one Member State can claim that it belongs to another Member State on the grounds that it was formed under that state's laws and has its statutory seat there.33 The incorporation theory permits more flexibility for companies to move into other countries. However, it gives away a control mechanism of the State in which it is registered. This control, though, is precisely the essential criteria which the real seat theory intends to preserve. Today, it is generally recognized that the three components listed in Article 58(1) are alternative.34 Thus, Article 58(1) Randelzhofer, supra note 29, Art. 58, Rn.10. 34...Smit/Herzog, supra note 11, para. 58.07; Randelzhofer, supra note 29, Art. 58, Rn. 9, J. Temple Lang, supra note 12, at 301; D. Vaughan, supra note 13, para. 16.04; E. Stein, supra note 31, at 28-29. 40 rules out the application the real seat theory.35 Nonetheless, national company laws remain applicable to the right of establishment since Article 58(1) also requires the formation of companies according to the laws of the Member state in question. The divergence of national laws could, barriers to a completely free establishment which will be discussed below.36 4. Forms of Establishment Article 52 prescribes the right of establishment for individuals which is extended by Article 58 to companies and firms. The right of establishment covers inter alia the right to set up and manage undertakings, in particular companies. This right can be used in two ways.37 It is interesting to note that pursuant to Article 58(1) accompany can exercise the right of establishment even if it has its principal place of business and its decision making organs outside the EEC as long as its registered office is located within the Community, see e.g. Eur. Ct. of J. Case No. 270/83 Commission v. France, [1985] ECR 273 & Case no. 79/85 Segers v. Bearijsfvereniging [1986-7], ECR 2375. -36 see infra Section III. however, create of EEC-companies Art. 52(1). 41.. • • • 4.1. Primary Establishment It may be used by way of principal or primary38 establishment. Under its scope comes the displacement of an undertaking1s entire activity from one country to another or the setting-up and administration of an undertaking in one country by nationals of another. This form also covers the acquisition or take-over of an existing undertaking in another Member State, for example by way of take-over bid or an exchange of shares.39 All citizens of any Member State regardless of their actual domicile are entitled to exercise this primary right of establishment. Thus, the nationality provides the link to the EEC. The same applies to a company: Once it comes under the scope of Article 58(1), it may theoretically40 move to any other Member State and become integrated in that economy pursuant to the first sentence of Article 52(1). 4.2. Secondary Establishment Freedom of establishment may be exercised by way of "secondary establishment", which means that individuals and companies can set up agencies, branches or subsidiaries, with the 8 These terms will be used inter-changeably as both terms are Used in the Treaty documentation. 39 D. Vaughan, supra note 13, Vol. 2, para.16.04; J. C. Seche, supra note 29, at para. 11.02 [1]. 40 See infra note 51, the impact of national laws leaves hardly any importance to the primary establishment. 42 . business centre remaining in another country.41 The second sentence af Article 52(1) provides that the abolition of restrictions to free establishment shall apply to secondary establishment of "nationals of any Member State established in the territory of any Member States". The nationality criterion is thus complemented by the criterion of actual establishment, i.e. the place wh^re the main economic activities of the national or company takes place.42 A company is solely entitled to a secondary establishment if it is pursuant to Article 58(1) established in the territory of the Community.43 Therefore, any EEC company has a right of secondary establishment throughout the Community-It can be submitted that the National Treatment Principle under the freedom of establishment of companies belonging to the A r t s . 52=58. P, Troberg in Kommentar zum EWG-Vertrag (Baden-Baden: Nomos Verlagsgesellschaft, 198^) 3rd Ed., H. V. Groeben, H.V. Bs§kh, j, Thiesing, C.-D,. Ehlexmann Jsds,) Art. 52, RN. 28. 43 The primary purpose of this condition is to defer the so-called "letter box companies" (i.e. companies solely, having a registered office which is sufficient for establishment in, for example, the Netherlands, see E. Stein, supra note 31, at 29) from establishment. With this provision the Treaty makes it possible for Member States to retain control of companies of non-EEC companies. It is interesting to note that in order to be established a "non-EEC company" (i.e. a company which is not incorporated in the EEC, or which does not come under Article 58 for some other reason) must entertain, in addition to the registered office, "a real and continuous economic link" with a Member State, see Title I of the General Programme for the Abolition of Restrictions on Freedom of Establishment [1962] O.J. 36. However, it can also enjoy the right of secondary establishment through the setting up of a'subsidiary. \\ ; tin?'^WW'^ .,i <•.< . J ,Vf... • V M M U V,-.U U .LI 4' . J . 43 EEC is implemented. Nevertheless, EEC companies could still be' deterred or limited in their freedom of establishment for reasons of public policy, but more significantly, because of divergent national company laws. III. RESTRICTIONS ON THE RIGHT OP ESTABLISHMENT 1. Public Policy Reasons Articles 55 and 56 permitting restrictions on the right of establishment for reasons of the "exercise of public authority" or for reasons of public policy, public safety or public security. So far these Treaty provisions were not applied to restrict the establishment of a company but merely to the exercise of non-wage earning activities of individuals within the EEC. Moreover, the application of Articles 55 and 56 is only justified if there is a genuine and sufficiently serious threat to public policy affecting one of the fundamental interests of society. As regards'restrictions of companies, the ECJ.decided recently that measures taken by national authorities on these grounds should be proportionate and the less impeding means to achieve the same end should be applied.44 Thus, the introduction and exercise of restrictive measures 44 Eur. ct. of J. Case No. 79/85 Segersv. ' Bedrijfsvereniging [1986-7] ECR, 2375,at 2 3 8 6 . on grounds of public policy is rather limited. .. 44.-s 2. Divergence of National Company Lavs In order to exercise the right of establishment a company must be able to carry rights and obligations, to sue or to get sued, to enter into contracts and so forth. Thus, a company needs to be recognized as a legal person and as having full legal capacity in the country in which it wants to operate. However, the national laws differ as regards the recognition of companies creating the effect that companies are regarded as established in one Member State but not in another. As discussed earlier, some Member States will require that a company has to have its principal place of business or its decision making organs in the same country where the registered office is located,45 they will not consider companies which have their real seat outside the Community as being established in the EEC. In other Member States, however, the company laws are satisfied with a formally registered office.46 Hence, if the Treaty would have required the factors to be cumulative., it would have stipulated the same conditions as required under the real 45 " ^ s r States which apply the real seat theory,. such as Belgium, France, Italy and Germany, see for further detail, discussion infra flection II.3.2.2. (i). • 46 Pursuant to Art. 66, para. 3 of the Burgerlijk Wetboek, Boek 2, Titel 3, merely the statutory, and not the real seat of a company has to be in the Netherlands, see for further detail -discussion infra section II.3.2.2.(ii). ' " s vn-Mi n TfTt JT't^ O'V • V LK U u }J,.U,O^.OA 45--• "J* seat theory and thus, would have been in full congruence with the desire to control foreign and to protect domestic undertakings of the Member States where the real seat theory prevails. Since the Treaty decided for the incorporation theory a company is theoretically able to claim freedom of establishment if it has a statutory seat within the EEC. Nevertheless, the national company laws continue to have a considerable impact on the mobility of companies with respect to their right of establishment. The issues which are entailed in the following are not meant to be a comprehensive list of all possible distortions in the field of company law but reflect the issues of primary importance. 2.1. Restriction of Primary Establishment: Transfer and Merger A company which has only the statutory seat in a Member State and wants to operate in another Member State is rather restricted in the exercise of its right of establishment with respect to its primary establishment.47 This company could be denied recognition as a legal person or could be at least subject to parts of the company laws where its real seat is located by any Member State in which the real seat theory prevails.48 Thus, the transfer of the primary 47 ;. see for definition, supra section II.4.1. 48 D. Thompson, "Subsidiary Companies and the Right of Establishment in the Common Market", j. of Bus. L. 119 at 124-25 • (1963); E. Stein, supra note 31, at 31; J. Temple Lang, supra 46— -•. -y operations of that company or the merger with a company in another Member State is practically impossible without losing its legal status or at least a change of "nationality" which in most States involves liquidation49 and heavy tax burdens.50 Consequently, the right of primary establishment of a company in another Member State is practically very restricted, although it exists in theory unreserved under Article 52.51 2.2. Leual Uncertainty and the "Delaware Effect" In addition to the restrictions of primary establishment, the right of secondary establishment52 could be deterred or limited due to the divergencies of company laws such as? - legal nature, formalities of registration, powers and responsibilities of a company, note 31, at 152. 49. ibid. 50 Randelzho'fer, supra note 29, Art. 58, Rn. 17; J. Audinet, supra note 30 at 1019. 51. see The Committee on Foreign Law, "Current Legal Developments in the European Economic Community", 18 Record of N.Y.C.B .A. (1963), at 344: "Since a company organized in one Member State cannot completely transfer itself.to another, the right of 'principal establishment1 provided for by Article 52 may primarily benefit individuals. Companies are primarily benefited by the right to establish branches and subsidiaries." see for definition supra section II.4.2. - amount of legal capital of stock companies, - protection afforded to investors and creditors differs, - public accounts, reports and other .'information, - small and medium sized companies. These differences could impede the mobility of companies since they cause legal uncertainty among investors which discourages FDI activities considerably. In particular, smaller enterprises were discouraged to actually use the riaht of establishment since they racked knowledge of the foreign legal and economic system.53 However, a much greater concern created that the divergence of national company laws of the Member States could induce the transfer of capital and activities of companies rather on account of more or less severe company laws than on purely economic reasons, the so-called "Delaware effect".54 This divergence is perceived to create a tendency to establish companies preferably in the Member States with the most lenient company law and to operate in Member States with more strict laws which results into the evasion of that'Member State's law and puts it into a disadvantageous position. This situation gave rise to 53 White Paper, supra note 5, pts. 133, 136. 54 named after the American state Delaware which has attracted many large American companies because of its liberal company law. Cf. the "Delaware" and "New Jersey" discussion in the United States: 'The question is not of diligence but of laxity'. (Justice Brandeis in Louis K. Ligitt Co. v. J. M. Lee, 288 US 517 (1933) 77C ed 3) . considerable concern among sone Member States, in p a r t i c u l a r France and Germany, that companies may in order to avoid a more restrictive company law of one Member State incorporate in another Member State and operate in the country in question.55 On Community level, the concern arose that such a development would contradict the Treaty objectives to overcome diversity in order to reap the benefits of economic co-operation.56 This objective was implemented through a legal framework for the cooperation of enterprises of different Member States.57 Some observers see this cooperation best achieved through implementation of harmonisation directives,58 others through the adoption of supra-national law.59 See, for instance, the decisions of the Bavarian Oberlandesgericht of March 21, 1986 (AG 1986, 45) and of September 28, 1967 (AG , 1987, 215), the absance of a minimum capital requirement for private companies in the United Kingdom has encouraged undertakings to set up a private company in Germany without any minimum capital, by passing through the United Kingdom followed by the creation of a branch in Germany. -56 see Art. '2. 57 „ • see White Paper, supra note 5, at pts. 133-44, 30 see K. van Hulle, "The Harmonisation of Company Law in the European Community", Harmonisation of Company and Securities Law: The European and American Approach, B. Wachter et al. (eds.) (Tilburg: Tilburg University Press, 1989) 10 at 12-14; for the discussion of the controversy of this position infra section IV. 3. 59 for example, J. Dine, "The Community Company Law Harmonisation Programme", 14 C,M,L.Rev, 323 at 328 (1989); see -fox further detail, infra section IV.3-49-jr IV. LEGAL BASIS FOX THE COMPLETION OF THE RIGHT OF ESTABLISHMENT The Treaty provisions establish different solutions to eliminate or at least reduce the restrictions caused by these differences. A legal basis for the harmonisation of company law& is established pursuant to Article 54(3)(g). This Article calls for a coordination of the safeguards required of companies for the protection of members and others, i.e. shareholders, employees, and creditors, and other third parties.60 However, the controversy whether Article 54 (3)(g) is restricted to the right to issue directives to the protection of merely shareholders and third parties dealing with the company*1 or if it covers in addition the interests of employees whose interests could be affected by the formation of a sompany,62 causes some legal uncertainties. The Commission's prevailing view is that the notion "protective measures" does not exciude any field of company law since almost all provisions in that field have a protective 60 Arts. 54(2), 54 (3) (g) . 61 Y. Scholten, "Company Law in Europe" 377 at 381-388 (1966-67). 4 C.M.L. Rev. 62 . Randelzhofer, supra note 29, Art. 54, Rn. 36; CCH CMR, para. 1350; P. Behrens Harmoni^aijkam of European, Company Law. in the European Economic Community" in J.J. Norton, supra note 2S>, para . 1 2 . 0 4 . , -eras*®® ^mmsmmimmmsmim^gm^mm 50 -purpose.63 The main argument submitted by the authors of the restrictive position is based on the fact that Article 54(3)(g) would open the possibility to change municipal company laws by a qualified majority vote. They maintain that a change of municipal company laws should only be made by an unanimous vote and thus, Article 10064 should be applied. This position indicates cleariy the Member States' concern to maintain their competence in the field of company laws. The Community msy also legislate outside the scope of this provision by relying on Article 235, which grants the general power to take appropriate measures that may prove necessary to attain the objectives of the Community. Two proposals were actually made under this provision which will be discussed below. 65 Articles 54(3)(g) and 235 constitute the most predominant means" used by the Community to provide a legal framework facilitating the establishment of companies throughout the 63 EC O.J. 1970/48. (A Article 100 empowers the Council to issue directives for the approximation of legislation in the Member States if they directly affect the establishment and functioning of the internal market. 65 see infra section IV. 2 . 66 Article 220 which empowers the Member States to conclude a convention to harmonise national company laws will not be discussed since it is of minor importance in the course of the-harmonisation and co-ordination process achieved. community.67 The SEA reinvigorated this process 1. The Hannonisation Programme: Article 54(3) (g) The Harmonisation Programme was originally proposed in the absence of a Community legal framework for cross-border • activities by enterprises and €or co-operation between enterprises of different Member States as an interim means to achieve to some extent a "level playing field" in which companies are more inclined to move and merge across bonders within the Common Market.69 It has to be understood that a uniform set of rules was not meant to be achieved by the Harmonisation programme.70 In order to be able to appraise whether the Harmonisation Programme has furthered FDI liberalization within the EEC, it is necessary to review the contents of the directives and their stage of implementation. To this end, it is sufficient to summarize their main issues and categorise them by subject, purpose, and scope. The directives which are adopted by the Council and implemented and the directives which are adopted by the Council but are yet to be implemented will be discussed at the same time. Subsequently, the proposed directives will be 67 68 69 70 see supra note 3. , see supra notes 6 5 7. White Paper, supra note 5, pts. 136-37. see K. van Hulle, supra note 58, at 13. reviewed in order to provide an outlook on possible future changes in the European company laws. 1.1. Adopted Directives: First Directive11: The subjects of thin flirpr.i-ivp arp tb_p_ areas of disclosure, validity of obligations entered into by companies and their nullity. It covers only stock companies, partnerships limited by shares and limited liability companies. The primary concern of this directive is to provide residents or enterprises with legal certainty when they operate transnationally. It is implemented in all Member States, except for Spain. '/ Second Directive72: This directive deals with the ; formation, maintenance and alteration of the capital of public limited liability companies. Its regulation was felt to be urgent as the public company with limited liability is the dominant form of doing business in the Member States. The directive is implemented in all Member States, except Spain. Third Directive73 ana Sixth Directive74: These directives regulate mergers between and divisions of public limited .' T\ Ti 74 EC O.J. 1968, L 65/8. EC O.J. 1977, L 26/1. EC O.J. 1978, L 295/36. EC OJ.. 1982, L 378/47. 53--liability companies respectively. These sub j ect matters were intended to be dealt with in a single directive aid thus, consist of similar provisions. However, the Council decided on adoption of the Third Directive to separate divisions from mergers. Mergers are defined o.s merger by acquisition (Article 3) and merger by formation (Article 4). The purpose of these directives is to protect shareholders as the intra-c®aaunity trade led to a steady growth of mergers. These directives are implemented in all Member States, except Belgium, Italy and Spain. Fourth75, Seventh76 and eighth77 Directives: The Fourth Directive covers detailed rules t coordinate the accounting systems of individual companies.'"' This was amended by the Seventh Directive which provided for consolidated accounts of pa?en''-cornpanies and their subsidiaries. Difficulties to prove the parent/subsidiary relationship are mrtw tho iat-.ter directive. The Eight Directive imposes an obligation to ensurs the high qualification of auditors. It lays down the minimum recruiremer for the education and the training of auditors. The directives are designed to eliminate distortion of competition which results f r o i a the £««t that eefflpasi-es with the same legAl forms have a 75 EC O.J. 1978, L 222/11. 76 . EC O.J. 1983, L 193/1. ; 77 EC O.J. 1984, L 126/20. 54 different accounting standard or which are caused by auditors with a different standard of education. Moreover, they shall improve the control over complex groupings of companies. The Fourth Directive is implemented by all Member States, except Italy, Portugal and Spain. The implementation of the Seventh and Eighth Directives was on January 1,1988 with the possible extension of that date to 1990. The former was implemented by France, Germany, Greece, Luxembourg and the Netherlands, the latter by Belgium, Germany, Luxembourg and Spain. Eleventh Directive78: This directive is related to the First, Fourth, Seventh and Eighth Directive and extends disclosure requirements dealt with in those directives for tha first tine to branches opened by a public and private limited liability conpariy., governed by the law of another Member State. Thus, the proposal rejects separate accounts for branches, provided that a copy of the parent company's account is filed with the registration body responsible for the branch. The directive aims at an incrasped use nf branches as ; means of investment. However; this modified proposal79 shows that branches of companies established outside the Community encounter some restrictions of this liberal deregulation. The accounts of these branches have to be drawn up in the sane or at least a 78 .. EC O.J. 1988, C 105/6. 79 See the original proposal in EC O.J. 1986, C 203/12. 55 •y similar way as required by the Community accounting directives. Twelfth Directive80: This proposal concerns single member private limited liability companies. It intends to create a more favourable environment for snail and medium sized companies. 1.2. Proposed fiirecti-iaeiS Fifth D i r e c t i v e " : This directive relates to the structure of a public limited liability company, the powers and obligations of company organs and employee participation. What it attempts is primarily to similiarize the one-tier and two-tier systems of companies in the EC. It provides for a single administrative organ constituting of executive and supervisory members and thus* tries for a compromise between the two opponent systems. However, it is highly disputed among 1 he Member states. A further reason far contcoisacsy on this directive is the regulation on employee participation. There have been cut backs on the formerly demanded rights for employee participation in the first proposal32 by appointment to the, board to cansultation and veto rights. But the different views of the Member States on that subject matter blocked the adoption of the directive ever .sijace its first proposal in IS73 and as well the amended proposal 80 EC O.J. 1988, C 173, July 2, 1988. 1983, C 240. of September 9, 1983. 1972, C 131 of December 13, 1972. EC O.J. EC O.J. 56--in 1983. Tenth Directive83: This proposal concerns cross-border mergers. It is more rigid than the Third Directive in its demand for certification and publication of the draft merger terms (Articles 4 and 5), supervision or certification of the legality of the merger (?ar+"'ole 1 0) • Furthermore, it determines the lav of the Member State which has to be applied to the merger (Article 9) and restricts nullity (Article 15). The purpose of the proposal is to enable undertakings to take full advantage of the Common market and strengthen their capacity \:o compete with non-EC companies. It intends to provide the legal framework to achieve the necessary size and economies of scale. However, the proposal is blocked by so™® Member Gtates due to their fear that legislation on employee participation could be circumvented be means of this Directive. Thirteenth Directive": The directive deals with take-over bids and other general bids. It was announced im the White Paper9^ and adopted by the Commission on February 16, 1989. Its major purpose is to protect minority shareholders of the target company in order to increase confidence and thus enhance cross-border transactions. The Commission emphasises that 83 EC O.J. 1985, C 23/11. 84 . EC COM (88) 823- . White Paper, supra note 5, Annex to the White Paper: Time Table for Completing the Internal Market by 1992, at 29. • 57- -r hostile take-overs are not undesirable as long as a control mechanism against excessive mergers is in place. The proposed directive specifically provides for the definition of a takeover bid and determines the offeree companies who would come under the obligation to position a bid. However, it is left to the Member States to designate a supervisory authority and to implement penalties in case of violation of the rules set out by the directive. This review demonstrates that directives have brought and still may bring about some alignment of company laws and raise their standards on a common Community level. In particular, the Fourth, Seventh and Eighth Directives provide a higher level of common standardisation of accounting systems and thus, give a fair and objective view of the economic and financial position of individual companies and groupings thereof. With the adoption of the Eleventh Directive the discriminatory treatment of branches as opposed to subsidiaries can be abolished. Of great importance is the Tenth Directive attempting to facilitate and enhance cross-border mergers and thus, overcome the most significant impediments to a complete freedom of establishment throughout the Community, Despite the controversies on the Fifth Directive regarding co-determination of employees86 impeding the adoption ^ The United Kingdom, for example, views the provisions on employe® participation to be irrelevant to comp.any laws. Germany , on the other hand has no clear cut division between labour and company law. : ; 58--of this Directive, by and large most Member States implement the adopted Council Directives so that harmonisation actually takes place. 2. Legislative Proposals under Article 235 In addition to the Harmonisation Programme, there have beeA two legislative proposals under Article 235: the European Economic Interest Grouping (the "EEIG") which came into force August 3, 1985s7 and is applicable since July 1, 1989 and the Statute for European Companies j88 a proposal which is, however, not yet adopted by the Council. 2.1. The European Economic Interest Grouping ("EEIG'M The EEIG can only be established by at least two companies comina under Article 58(21 of the Treatv of Rome and established in different Member States (Article 4 (1) (a) and (2) (a)). She EEIG need not have an initial capital and shall not invite investment from the public. The profit derived from it §jLre profits of its members, i.e. the different companies. ... The EEIG cannot have profits since its purpose is to facilitate economic activities of its members and to improve their results but not to j s p i a s e tliem L e g a l s a g a c i t y i s s s c f s f r e d ; to 'the , 8 7 ~ E C Q.J. 12&5, L 199. 88 EC O.J. 1989, C263/32. 59--EEIG. However, in the case of transfer of the registered office, it is kept open to Member States under Article 14, para. 4 to provide whether the status of legal personality shall be attached to EEIG's whose head office is located in its territory but whose registered office is not. Thus, the Regulation leaves room for Member States to apply the real seat theory which is evidently one of the reasons for its successful conclusion. Furthermore, Article 3, para. 2 (c) limits the number of employees of an EEIG to 500. This limitation favours the national laws regarding the co-determination of employees of Member States3® which have a strong voting power. By giving the Member States the final decision as to the recognition of companies and avoiding the highly controversial views on employee participation, the Regulation provided for a basis to which approval was possible for the different schools of thought of the Member States. The EEIG creates a new form of entity intended as a means of co-operation for enterprises which wish to maintain their independence. It 'is particularly suitable for joint ...ventures within the Community. It creates a basis for a pooling of companies, but it does not provide a legal framework for cross-border mergers or for a full transfer of the actual seat of a company without the loss'of nationality. Thus, it contributes 89. e.g. the German Statute on Employee's Representation (Mitbestimmungsgesetz), • 60--to increase certain crass-border activities of business but it is not sufficient to fully abolish one of the major impediments to complete liberalization, i.a, the right of principal establishment through cross-border mergers. 2-2... The Statute of European Company Law .(£he "Statute") This Statute intended to create conditions for the establishment and recognition of a Societas Europae ("S.E."), a company which would be particularly involved in the European Market and be incorporated under a European company law. This European company law is supposed to create supra-national law. It is envisaged as a form of "federal corporation" aiming to provide for a means to increase the mobility of cross-border business within the EC and reflects many of the concerns dealt with in the direct:ves of the harmonisation programme. This measure would allow to promote companies basei in at least two Member states to form a European company by merging, forming a joint holding company, or f o r m i n g a j o i n t subsidiary. A European company would then operate under the Statute. It covers most areas of company law, but it.,.makes wide references to national law f the country where the company is registered. Despite these references to national laws the Statute is not expected to be adopted by the Council within the next two years. The p r i m a r y reason for the standstill appears to b^ "again the controversy on employee participation on a hoard level.90 But even if it would be adopted by the Council (with sam.4 changes the Commission might propose), it is not likely to be accepted by EC incftistrv.91 The draft was criticized for its rigidity and unwieldiness, and when calls for simplicity came up doubts arose whether enterprises would give up their municipal legal status in favour of the S.E. status.92 Nonetheless, the true advantage to a European Company ; Statute in form of a Council Regulation is that it provides a comprehensive legal framework with the possibility to refer to the Member States national company laws. Moreover, it would be legally binding in the Member States by "virtue of their nature of producing a direct effect",93 whereby the direct application of a Regulation means that its entry into force and its application in Eavour of or against those subject to it are independent of any measure of reception into national law.94 90 In particular, the German opposition is signed by the fear that existing German aompanies would migrate as they could choose the European form iR order to escape the stringent provisions of German law on related enterprises (Konzernrecht) and on the worker's.co-determination. 91 • see J. Dine, supra note 5®, at 323. 92 ibid, 93 Art. 189 and as decided by the Eur. Ct. of J. in Preliminary Ruling No. 9170, Grad v. Finanzamt Traunstein,- ECR ri9701 825, at 837. 94 Eur. Ct. of J, Preliminary Ruling No. 34/73, Variola S.P.A., Fratelli v. Ammistrazione delle Finanze dello Stato, ECR [1973], 981, at 990 (Ground No. 9). The demand for a supra-national law to create a "European outlook" is a step in the right direction. Its co'/isequence would be, however, a limit to the sovereignty of Member States in a politically sensitive area.®5 The Statute of European Company Law creating such a supra-national .instrument is not yet in force. 3. Evaluation The Harmonisation Programme may eventually provide a common level of the conditions in which companies can be established in each Member State and simultaneously provide a framework for co-operation of companies in different Member States. It renders the disputes regarding the recognition of foreign companies obsolete. Moreover, a detailed approach taken in the directives appears rather necessary in order to avoid ambiguities which might lead to undesired uncertainties of the Member States as regards their implementation. However, there are certain drawbacks to the Harmonisation Programme which cannot be denied. The major critique is that the directives are too limited in scope having a 'compromising' J. Temple Lang, supra note 12, at 294. 63.. r character, trying to reconcile the different schools of thought94, and lack the "European outlook"97'. It is viewed that they are too detailed and rigid and may petrify company law through overregulation.98 The formation of a European Company Statute can be viewed as the most comprehensive solution to achieve the completion of the right of establishment and to overcome in particular cross-border mergers. However, the enactment of such a Statute cannot be expected in the near future of 1992. The EEIG, although in force, falls short of a legal framework for cross-border mergers. To date, the implementation of the Harmonisation Programme under Article 54(3)(g) in a piecemeal fashion establishes the most advanced instrument used for the completion of the right to establishment. Notwithstanding its criticism,^ it establishes to some extent a level of common conditions for companies in different Member States and thus furthers the freedom of establishment for companies. However, the adoption of the proposal of a supra-national company law as foreseen under the European Company Statute would definitely contribute to the realization of a complete freedom of establishment and a truly liberalized intra-Community FDI. 96 I.G.F. Cath, "Freedom of Establishment of Companies: A New Step Towards Completion of the Internal Market", 6 Y. of Eur.L. 247 at 255 (1986); C. Timmermans, "Die Europaeische Rechtsangleichung im Gesellschaftsrecht", 48 RabelaZ at 4 (1984). 97 J. Dine, supra note 59, at 329, 332. ibid., at 328. V. CONCLUSION 64--The abolition of restrictions of the right of establishment caused by national company laws is of particular importance to the liberalization of FDI in a "Single European Market" since their divergence constitutes impediments to the exercise of free establishment throughout the Community: it deters the allocation of the most preferential resources and distorts competition; psychological and political factors stemming from the coexistence of national legal systems defer the free flow of FDI in the EEC; smaller enterprises get discouraged to actually use the right of establishment since they lack knowledge of the foreign legal and economic system; and finally, cross-border mergers encounter the problem of surrendering the nationality of the absorbed company. The elimination of these impediments was partly achieved by the direct effect of Treaty provisions in Member States with respect to standstill and national treatment provisions, and completed with the legal framework facilitating the co-operation between enterprise's through the harmonisation of national company laws and the adoption of supra-national law. Thus, a broad liberalization is accomplished under the Treaty as amended and completed by the SEA. 65--CHAPTER 2 TEE INTERNAL MARKET OF CAPITAL: FULL LI2BRALI32TI0N OP CAPITAL MOVEMENT IN 1993 I . INTRODUCTION 1. Prerequisite €or Fret? Establishment Free movement of capital is governed by Articles 67 to 73 in Chapter 4 of the Treaty' and constitutes one of the four basic freedoms establishing the EEC. It is a necessary prerequisite for implementation of freslom of establishment as it is impossible to conduct any kind of business activiti without the possibility of having access to and disposing of the necessary capital. Unless the free movement of capital is established the right of establishment has little practical meaning. Moreover, the objective of Art: cle 2 to achieve a harmonious development of economic activities in the Community is only feasible if sufficient capital is available and the sources of capital are diversified to enable investment to be financed, as rational as possible.2 1 All Articles cited in this chapter shall be presumed to be from the Treaty unless otherwise indicated. 2 Commission Recommendation 77/534 of July,25, 1977 on Transferable Securities, EC O.J. 1977, L212/37, "Explanatory Memorandum" „ Paragraph 1* .•• ; -66 -Thus, the abolition of restrictions on freedom of capital movement is indispensable for the creation of an unified economic area. This prerequisite was reemphasized under the SEA establishing an internal market for capital.3 2. The Least Complete Freedom Although free movement of capital is indispensable for an economic union,4 it is the least complete freedom of the four freedoms of the Treaty. Tha reasons causing the lower degree of liberalization of freedom of movement of capital as opposed to freedom of novement of persons, services and goods are rooted in the different economic situations of the then six Member States forming the EEC during the early stages of its creation. At the time the Treaty was drafted, from 1957 to 1958, the monetary reserves of the six Member states were, except for Germany, not sufficient to carry a fully uncontrolled foreign investment situation without jeopardizing the equilibrium of the ? Art. 13 of ;he SEA. 4 see Smit/Herzog, The Law of the European Community: A Cornmentarv on the EEC Treaty (New York: Matthew Bender, 1976, 1981, 1986, 1988, 1990) Vol. 2, Preliminary Observations on Articles 67-73, para. 1; U. Everling, The Right of Establishment in the Common Market (CCH Inc.: Chicago, 1964), para. 701; D. Vaughan, Law of the European Communities (London: Butterv/orths, 1986) Vol. 2, para. 17.01; J. Temple Lang, "The Right of Establishments of Companies .andFree Movement of Capital in the European Economic Community", International Trade. Investments .and Organization, W.R. La Fayne & P. Hay (eds.) (Chicajgct •••' University of Illinois Press, 1967) at 315. 67 -balance of navw.ents of the Member states. In particular, France was in a permanent crisis and its reserves of foreign exchange declined to U.S. $ 642 million even after the ratification of the Treaty. Another fact which contributed to the rather modest progress in the liberalization of capital movement was the common economic policy, especially in Belgium, France and Italy, to use the capital markets as control mechanisms for the implementation of national investment plans. This policy could be exercised more efficiently the more the national capital markets were insulated from other Member States' markets.. Moreover, controls of capital movement as instruments of economic policy belong to some extent to the sovereignty of the Member States.5 Furthermore, the conditions of the domestic capital markets differed greatly in 1957 to 1.958which created concerns about increases of interest rates and thus, higher costs of living and competitive disadvantages if complete liberalization would be implemented. Despite these differences in their national economic policies/ tte Master Stetes n»de a step toward liberalization of see Art. 104. 6. J. C. Seche , "The free movement of capital and of current payments in the g„E.C.», European Economic Community: Trade and Inv^s.tment, J. g. Norton (ed.) (New York: Matthew Bender, !§&§}> para . 18.Qi; Smit/Herzog, supra note 4, para. 2. • 68-v capital movement when the Council adopted the First Directive in May I960 implementing Article 67 and the subsequent amendment by the Second Directive in 1962.8 This adoption of initial liberalization measures was followed by a long stagnation in the 1970's, as a result of the international monetary and economic difficulties intensified by the energy crisis. However, with the recoveiy of the monetary and economic situation of the Member States in the 1980's and their recognition that economic and monetary stability could only be reached through the integration of economic policies, including free movement of capital, the Commission could launch a successful proposal in its White Paper on "Completing the Internal Market" to fully liberalize movement of capital.9 In this chapter, it will be demonstrated how the completion of the free movement of capital affects FDI within the EEC. The analysis of Article 67 will show its lack of direct effect in the Member States" leaving the freedom of capital movement pursuant - 7. [1960] EC O.J., No. 43 at 921. 8 Directive No. 63/21 [1963] EC O.J., No. 8 at 62., which is of minor importance and will therefore, not be discussed. 9 Commission of the European Communities, White Paper from the Commission to the' European Council on "Completing the Internal Market" (Luxembourg: Office for Official Publications of the European Communities, 1985), Pts. 124-32. , • see supra Part I, Introduction, section II.2. 69--to this provision rather limited. Consequently, recourse will be' taken to the Directives implementing the free movement of capital, in particular, those Directives adopted subsequent to the proposal of the White Paper. It will be concluded that the actual liberalization of FDI within the Community as reached under the SEA is rather significant. II. SCOPE OP THE FREEDOM OF CAPITAL MOVEMENT, ARTICLE 67 Paragraph 1 of Article 67 establishes within the Community the progressive abolition of all restrictions on the movement of capital belonging to persons resident in the Community including the discrimination based on nationality, on the place of residence, and the place where such capital is invested. 1. unspecified Meaning of Capital Movement The Treaty does not provide a clear definition of the term "movement of capital". Its meaning is interpreted differently on the basis of the objectives of the Treaty and the international use of this term. Some authors11 defined capital movement as "the creation or settlement, whether or not of value, of claims related to the acquisition of interests in enterprises, or of other rights, regardless of.whether the value (if any) consists 11 Smit/Herzog, supra note 4, para. 67.05 (d). -70 of goods, money services, or intangible goods" which includes take-over bids or public offerings of securities. Others viewed capital movement to involve either acquisitions or transfers by residents of Member States of tangible or intangible assets located in another Member State, or financial operations intended to modify the amounts or characteristics of debts owed by a party residing in one Member state to a party residing in another.12 However, Article 67(1) provides only a framework for action. For its specific definition, recourse has to be taken to the directives implementing Article 67(i).13 2. Non-Discrimination: Nationality, Residence and Place of Investment Article 67:1 requires the abolition of any discrimination based on nationality as prescribed by national laws, the place of residence,14 and the place where the capital is invested.15 This reflects the purpose of Article 67 to put to use any capital -12 J . P . o d c n e , "La L i b e r a t i o n d e s Mouvements ^ e s Cap i tam* e t 1 ' I n t e g r a t i o n f i n a n c i e r e d a n e l a Communaute" ? ; M . c . 77 (lgg^j) \l § e e i a t s a s e e t i e a H i . i , 14 see discussion infra section III.2. 15 the "location of the investment" is generally seen as the place where the funds in.question are being managed, as opposed to the place where the physical investment financed with these funds is located, see Smit/Herzog, supra note 4, Vol. 2 para. 67.11. ' 71--available in the Community in any place within that territorv-1 3. Limited Standstill Provision The standstill "revision applicable to free movement of capital is not as far-Feachinq as the standstill rule under the right of establishment-.. In general, standstill clauses undef the treaty use a rigid wooing such as "shall not introduce" or "shall refrain from introducing".17 The wording used under the first paragraph of Article 71 "Member States shall endeavour fcc avoid introducing ... any new exchange restrictions...," demonstrates, however?, that this provision does not come under tiife £®da«e.r satsgps-y.. 'ffhe lenience of it indicates that the authors of the Treaty intended to set out only a guideline and obligation of the Member States in the matter of rules yoverffling the movement of capital in their territory. This intefflt was based on the perception that it would be unfair to impose & strict standstill obligation in this area, since some Member StSte" "* in the degree of liberalization than-others and it was impossible 1?° ensure that these Member States could keep to this level ori§® the Treaty 16 it is interesting to note that once companies qualify as residents, the provision offers also companies of third countries the possibility to,profit from the freadom of movement of capital within the EEC. Arts. 12, 31, 32, 53, 62 and 106(3). 72--entered into force.18 The Court supported this view and held that Article 71 does not impose an unconditional obligation on the Member States which would enable individuals to rely upon in their national jurisdictions. Consequently, Article 71 has no direct effect19' and thus, fails to provide rights in favour of the individual.20 4. Lack of Direct Effect: "Proper Functioning of th« Common Market" Member States shall progressively aboliish between themselves all restrictions on capital movement belongifflg to persons resident in Member States.21 In the early stages of the implementation of the Treaty, this gradual elimination of . restrictions was perceived to apply exclusively to restrictiort® pertaining to capital as such, in particular regulations on currency laws and foreign trade, investment and exchange control laws. Over time, however, the scope of Article 67(1) was Judgment of 11 November 1981 in Case 203/80,. Criminal Proceedings v. Casati [1981] ECR 2595, Opinion of General Advocate Mr. Capotorti, at 2626. 19 ibid,, 2595. 20 ibid,, see also Groeben. Boeckh. Thiesing, Ehlermann, Kommenta-r -zum BWG-Ve-ctcas* .(Baden-Baden: Nomas Verlagsgesellschaft, 1986) a_ Art. 71, note l. , " Art. 67(1). 73--extended by the decision of the ECJ22 to cover administrative practices including excessive formalities, fees for licgices and the like, and even to non-legally binding administrative directives including the abuse of discretion by authorities. It is important to note, that since Article 67(1) is limited in its application to regulations which govern the relationship between one Member State and one or more other Member States, domestic regulations adopted to create restrictions to capital movement in order to impede frontier-crossing transactions are prohibited pursuant to Article 68(2). However, these restrictions shall be abolished to the extent necessary tor the "proper functioning of the Common Market" establishing a qualification to the liberalization ®f capital movement. The obligation of the Member States to abolish restrictions is limited as to whether a need for the proper functioning of the Common Market existed. This qualification was introduced because of the significant adverse effects the liberalization of capital movement may have on the Member States' eguilibxiuK of the balance of payments and their capital markets. This effect could contradict the objectives of the T: eaty .to : promote eamrit; activities*, ^ability, and the stan-aT$ of 2Z.. Smit/Herzog, supra note 4, para. 67.13.; Eur. Ct. of J. Case 175/85, Brugnoni and Ruffinengo v. Cassa di Risparmo di Genova e Imperia, [1936] ECR 2013, at 2030, Grd. 22. 74--living within the EEC. 23 Since Article 67(1) did not provide for a specific definition of the term "proper functioning", doubts arose as to whether its determination should be left to each of the Member States or if it should be dealt with under the umbrella of Community law. The ECJ24 held that the interpretation of what constitutes a "proper functioning' could not be left to the Member States. Several considerations influenced this perception. First, capital movement was usually impeded by legal uncertainties and as voluntary unilateral libaralization could not provide for as much stability as the obligation to reach a certain degree of liberalization imposed on the Member States by a Community body the former was unlikely to be sufficient. Second, if the determination of what establishes a "proper functioning" were to be left to the Member States the uniform effect and its binding force would be jeopardized. Third, the ECJ stated that an unconditional content of a Treaty provision is necessary for its direct effect if the necessary directives to implement this 23. Art.2; CCH C.M.R. , Art. 67, Para. 1355.22}, Smit/Herzog, supra note 4„ Art,67, Paxa. 67.08. 24. Casati. Case, supra note 18, at 2613-15 and Opinion of Advocate General Mr. Capotorti, 2623-25; Judgment of 31 January 1984 in Case 2 8 6 / 3 2 and 26/83 (Luisi and Carbons v. Minfistero del Tresaro..[1384] ECR 377,, at' 40-5 '-Gcd. 30v opinion of General V;  Advocate Mr. Mancini at 413-14; Opinion of Advocate General Mr. Mayras in Judgment of 23 November 1978 in Case 7/78 in which the pmii-i- rfirt m t ™ 1 p on the direct effect of Article 67 (1) (Regina V. Thompson [197 8] ECR 2247) . : 75--provision within the prescribed period were not adopted.25 In addition, the ECJ maintained that the direct effect of Article 67(1) could undermine the Member States' obligation to ensure a reliable economic policy set out by Article 104.26 Accordingly, the Council was solely empowered to appraise the necessity for the abolition of restrictions imposed on capital movement and to implement the objectives set out in Article 67 by adoption of directives pursuant to Article 69. The ECJ concluded that the adoption of directives remained necessary in this matter even subsequent to the transitional period ending on December 31, 1969.27 The term "proper functioning" had to be interpreted as a permanent condition which continued to apply even after the expiry of the transitional period, so that restrictions retained by Member States after the end of that period remained valid unless a Directive issued under Article 69 prescribed differently. As opposed to the ECJs rulings in cases relating to the 25. Judgments of 21 June 1974 in Case 2/74 (Reyners [1974] ECR 631), 3 December 1974 in Case 33/74 (Binsbergen [1974] ECR 1299), 12 December 1974 in Case 36/74 (Walrave [1974] ECR 1405); Judgment of 14 July 1971 in Case 10/71 (Muller [1971] ECR.223 and 22 March 1977 in Case 78/76 (Steinike und Weinlig [1977]. 26,.. see Casati case, supra note 18, at 2614, Grd. 9, and Opinion of General Advocate Capotorti, at 2626. 27. see Art. 8(1). 76 freedom of establishment'28 the direct effect of Article 67 was rejected. Consequently, the freedom of movement of capital does not provide the individual with legal rights and is merely liberalized in so far as directives prescribe it,. In order to determine the actual liberalization of movement of capital with respect to FDI these directives have to be consulted. III. IMPLEMENTATION THROUGH DIRECTIVES The Council adopted several directives implementing Article 67(1). The First Directive, adopted on May 11, I960,29 represented the first dynamic step towards the realization of the principles stated in Article 67(1). For the first time, capital movement was defined. Despite the fact that the First Directive was amended several times,30 and finally repealed by Directive 88/361 of June 24, 1988 which entered into fores or. July 1, 28. The restrictions and limitations imposed became completely inoperative at the end of the transitional period even where the Treaty prescribed the adoption of the appropriate directives in the course of that period: Judgments in Case 2/74 at 631, Case 33/74, at 1299, Case 36/74, at 1405, all supra note 24, 8 April 1976 in C&se 48/75 (Royer [1976] ECR 497) , 14 July 1976 in Case 13/76 (Dona [1976] ECR 1333), 28 April 1977 in Case 71/76 (Thieffry [1977] ECR 765), 22 September 1983 in Case 271/82 (Auer [1983] ECR 2727). 29 .. First Directive, supra note 7. 30 Second Directive 63/21 of December 18, 1962, as amended by the Directive 86/566 of November 17, 1986 EC O.J. 1986, L322/22. 1990,31 the definition remained unchanged. 77 -1. Definition of Direct Investment Direct investment is defined as investment of all kinds by natural or commercial, industrial or financial undertakings serving to establish or maintain lasting and direct links between the person providing the capital and the entrepreneur to whom or the undertaking to which the capital is made available in order to carry on an economic activity.32 Direct investment is classified in four different categories:33 The first category covers the establishment and extension of branches or new undertakings. In this case the undertakings or branches must belong to the person providing the capital. Covered is, as well, the acquisition in full of existing undertakings, including wholly-owned subsidiaries and branches.34 The second category contains the participation in a new or 31 Directive No. 88/361, EC O.J. 1988, L178/5. 32 First Directive, supra note 7, Annex II as preserved in Directive 88/361, supra note 31, Annex I. 33 ..Directive 88/361, supra note 31, Annex I, para. I. 34 ibid., Explanatory Notes. 78 existing undertaking. This requires, with respect to companies limited by shares, that the block of shares held by a natural or legal person enables the person, either pursuant to the pertinent national laws or otherwise, to exercise control over the company. Thus, the acquisition of control of a company through purchase of shares and take-over bids is included.35 The third category covers long-term loans, i. e. loans granted for a period of more than five years. Long-term loans are primarily understood as loans which are granted by a company to its subsidiaries or to companies in which it has a share and loans linked with a profit-sharing arrangement.36 The fourth category contains reinvestment of profits.37 All of the above shows that the classification of direct investment is in congruence with the prerequisites of the provisions on the right of establishment. It demonstrates the objective of the Treaty to facilitate the exercise of the right of establishment through the liberalization of capital transactions. 2. Beneficiaries: "Residents" The determination of "residents" is not assessed by the 35 First Directive, Explanatory Notes, Annex I, Para. 1:2, supra note 7. 36 ibid., Para. 1:3. 37 ibid., Para. 1:4. ' 79--directives,38 but follows national laws. Residents and nonresidents are defined as natural and legal persons according to the national exchange control laws. The definition of natural and legal persons is also left to national laws.39 The .  .. determination of the residency of natural persons causes no problems as it is generally assessed by the place where the individual usually abides. However, the assessment of the "residency" of companies is more complex. Capital transactions which are required for the establishment of enterprises are governed by Articles 52 and 58. These provisions are more specific than Article 67(1) and receive therefore precedence. Only, transactions different from those will be governed by national exchange control or investment laws.40 58 see Eur. Ct. of J. Judgment of February 4, 1988 in Case No. 143/86 East et al. v. Cuddy, [1988] C. M. R., para. 14,444. -39 First Directive, supra note 7, Annex I, Explanatory Notes. 40 ibid., it is interesting to note that the national laws are generally not tied to the nationality but to the place of residence and make the factor controlling for the applicability of restrictions under their foreign exchange or investment laws. Hence, transactions of residents benefit to a larger extent from the free capital movements than transaction of nationals. See, for example, the investment•laws of France and Spuin reprinted in CCH "Doing Business in Europe", Paras. 22, 680 and,5-660 respectively. sa-3. Incomplete Liberalization prior to the SEA Initiative: The First Directive The First Directive achieved to a large extent the liberalization of direct investment. However, a complete liberalization was not reached. First, the scope of the restrictions to be abolished uftder the First Directive remained limited. The Directive covered only the elimination of foreign exchange restrictions, i.e. measures prohibiting or limiting transactions related to capital movement.41 A wide range of impediments on direct investment stemming from, for example, administrative measures fell outside its scope. Second, certain control mechanisms were kept in place primarily due to the classification of transactions in four categories set out in Lists A to D which were liberalized at a different degree. Direct investment were, pursuant to Article 1 of the First Directive, unconditionally liberalized with respect to their conclusion and performance, so that the Member States were obliged to grant authorizations for these transactions. However, the transactions specified under List B covei g portfolio investment in securities had to be granted general permission.42 Operations of List C governing the issuance and placement of 41' 42 First Directive, supra note 7, Art. 1(1),. ibid, Art. 2. securities not dealt with under List B were only conditionally liberalized.43 Last, List D comprising of transactions of highly mobile capital, the so-called "hot money", was not liberalized at all and Member States remained freeto decide whether to impose restrictions.44 Consequently, screening -mechanisms introduced or maintained by Member States were viewed to be indispensable for the verification of the genuineness of transactions and could, in turn, have a chilling impact on FDI. In addition, Article 5 of the First Directive explicitly provided all Member States with a final right of control in order to verify transactions and to take measures to prevent an infringement of their national laws. Nonetheless, such controls were considered disproportionate to the aim of preventing unlawful capital export and were prohibited if they rendered illusory the freedoms recognized under the Treaty.45 This rule of proportionality was introduced to prevent Member States from imposing unilaterally protective measures on capital movement. 4? ibid,, Art\ 3(2). It provided the Member States with the power to maintain or reintroduce such restrictions as were operative on the date ®f entry into force of the Directive or on the date of accession if the free capital movement might form an impediment to the achievement of the goals of that Member State' s economic policy. 44 ibid., Art. 4. 45 Luisi & Carbone Cases 286/82 & 26/83, supra- note 24; P. Oliver & J.-P. Bache, "Free Movement of Capital between the Member States: Recent Developments", 26 c. M. L. Rev. 61 at 80 (1989). 4. Full Liberalization under the SEA Initiative 82 Under the initiative of the SEA, pursuing the ambitious goal of an internal market of capital,46 the Member States acknowledged that the procedure for granting authorizations would be a continuing requirement restricting the freedom of capital movement unless capital movement was fully liberalized. This recognition led to the adoption of the Council Directives in 198647 and 19 8 848 enhancing the process of liberalization of capital movement. 4.1. Directive 86/566 On the proposal of the Commission,49 the Council adopted Directive 86/566 in November 1986.50 This Directive extended the freedom of movement of capital in two ways. First, it incorporated List B into List A making all these transactions Art. 8 A was inserted into the Treaty by Art. 13 of the SEA; White Paper, supra note 9, pts. 130-32. 47 Directive No. 86/566, supra note 30, Directive 85/583 will not be discussed since it covered a single category of transactions, in particular operations in units of certain types of unit trusts which is not subject of this work. 48 Directive No. 88/361, supra note 31. 49 .. EC C7.0M (86) 292 final - May 1986. Directive 86/566, supra note 30. subject to the same procedure of authorization.51 Second, it transferred a number of conditionally liberated transact^Qns listed under List C, namely long-term credits related to commercial transactions and the acquisition and admission of company securities of one Member State to the capital markets of another to an unconditional liberalization.52 Directive 86/566 also attempted to freeze, the restrictive effect of control measures introduced under Article 5.53 However, this directive fell short of fully abolishing control mechanisms, nor did it extend the obligation of Member States to eliminate discriminatory restrictions. .4.2. Directive 88/361 A complete liberalization of direct investment has been attained by the Council Directive 88/361 rendering all preceding Directives inoperative with effect of July 1, 1990.54 The Directive imposes the obligation on all Member States to 51 ibid., Art. 1(2), consequently imposing a rigid obligation on the Member States with.a two-tier foreign exchange market. 52 11 May, 1987 EC COM (87) 203 Final, Second report from the Commission to the Council and the European Parliament on the Implementation of the Commission's White Paper on Completing the Internal Market (office for Publications, Luxembourg, Doc.). 53 A r t . 5(2) of Directive 86/566, supra note 30, provided that "the Member States shall undertake not to render more difficult the authorization, procedures on the;date of entry into force of this Directive". • 54 Art. 9 of Directive 88/361, supra note 31. -84-• -j* abolish restrictions on movement of capital between persons residing in their territory. Because of this complete liberalization, there is no longer room for the authorization procedure, as pointed out above.55 Member States lost their power to impose restrictions on these grounds.56 It is viewed that the Directive covers not only the elimination of foreign exchange restrictions, i.e. measures prohibiting or limiting transactions related to capital movement, but also the abolition of all hindrances including administrative measures, to the execution of the capital transactions themselves.57 In addition, Article 1(2) of the new Directive obliges the Member States with a dual foreign exchange market, namely Belgium and Luxembourg, to abolish different rates of exchange for payments related to current transactions and transfers with respect to capital movement by July 1, 1990.58 IV. RESTRICTIONS ON CAPITAL MOVEMENT The Directive leaves only a few exemptions to full 55 ibid., Art. l. 56 This is recognized by the wording of the Directive 88/361, supra note 31, first paragraph of Art. 4, as opposed to Art. 5(1) of the First Directive, supra note 7. P. Oliver & J. P, Bache, supra note 45, at 68. ibid., Art. 6(1). 85 -liberalization of capital movement which affect direct investment mostly temporarily. However, a restrictive impact on FDI could emerge from the recourse of Member States to escape clauses. These are granted under the Treaty in cases of serious balance of payment difficulties. Since these escape clauses were? actually used by Member States to impose restrictions on direct investment activities it is interesting to examine its scope. 1. Restrictions under Directive 88/361 1.1. Access to Statistical and Admin j. sty,at ive Informat ion Member States may take protective measures in order to prevent infringements of their laws and regulations.. Explicitly mentioned are measures to maintain and introduce procedures for the declaration of capital movement for purposes of administrative or statistical information.59 However, the second sentence of Article 4 ensures that such protective measures shall not have the effect to impede capital movement effectuated in accordance with Community law. Therefore, financial institutions can no longer be required by Member States to assist national authorities in the control of nature and 59 Directive 88/361, supra note 31, Art. 4 has a greater impact on the fields of taxation and supervision of financial institutions as it leaves ample room to the Member States to impose restrictions on capital movements in cXrder to prevent any abuse of the full liberalization stemming from the differences in national tax laws. Unless full harmonisation of these national' laws is achieved, the imposition of protective measures needs to continue in order to avoid disturbances of competition and abuse .. of true liberalization through evasion. '•••'• genuineness of transactions in order to ensure that they are lawful., which used to be a quite cciDiuon request. Previously, sometimes exchange control laws prohibited certain activities, such as the utilisation of a bank in another Member State or the satisfaction of foreign liabilities with foreign assets. These can no longer be prevented.60 Consequently, even a measure that could have an indirect adverse effect on FDI within the Community is prohibited leaving no room for actual hindrances to direct investment activities. 1.2. Transitional Measures Of greater importance, at least in the near future, are the exemptions under the 1985 Acts of Accession of Spain and Portugal.61 These exemptions will affect direct investment within the EEC at least temporarily. Pursuant to its Article 62, Spain may postpone the liberalization of direct investment by its residents until December 31, 1990. As to Portugal, the granted permission to extend the liberalization of direct investment on national territory by non-residents expired on December 31, 1989.62 However, the restrictions of liberalization of direct investment abroad carried out by residents is permitted until 60 see Smit/Herzog, supra note 4, para. 67.12[a]. 61 Accession of the Kingdom of Spain and the Portuguese Republic to the European Communities, EC O.J. L302, 15 November 1985. 62 ibid., Article 222. 87--PeeelUber 31, 1992.** Pursuant to Article of Directive further extension has fce^A granted Portugal ana Greece UrifcU -the ehd of 1995. XX. is worthwhile noting th^t there ^captions granted to Scttoe Wember states which do not immediately ^tfect direct inveStweiyt but may have an indirect impact Ob direct investment activities.64 It has to be anibhasised, however, th^-P these transitional ffleaWes merely purport a smoother adapt^j-tfh of national ecohQwies to the unconditional Ii£>eraliz3.t:>.c7h of capital movement. By the end of the just describe tijive periods and if Po further extension is granted, full U t i l i z a t i o n 0f direct investment withih the EEC should pe a t t a i n ^ 2. Escape clauses, Articles 106 and 109 Notwithstanding the prohibition fox H^tf^r States to impose protective laeasute^ capital Jtiovement piV^Vi^nt to Directive 88/3fiJ., except for tt<|nsiti< nal measures z^ tf transactions which Would infrui-ge their laws and peculations, states may take & ibid., Art. 224. 64 Directive 88/361, su&ra note 31, & H . 6:2 and Annex IV, I4.$jt III: extensions granted to Ireland ^fceece until December •31, 1992 covering operations in securities tf^lt in on a capital mairkat a n d to Belgium and Luxembourg to to" operate a du^l exchange matket until 3i December, provided that the exchange rates ruling on t h e two markets SpoV flo appreciable and lasting differences. sa. recourse to escape clauses provided under the Treaty. Escape clauses are provisions which enable Member States to derogate from Community law in certain concrete cases in order to overcome economic difficulties and crisis. The Member State then needs an authorization, or at least subsequent approval, from a Community body.65 Thus, they can be used to exclude FDI from the scope of Directive 88/361 under specific circumstances. 2.1. Requirements Articles 108 and 109 are designed to safeguard national economic policy in the case of a balance of payment crisis as a result of an overall disequilibrium in its balance of payments or when there are problems as to the type of currency at its disposal. Therefore, they provide for the measures to be taken and the procedures to be followed by a Member State "where a Member States is in difficulties or is seriously threatened with difficulties with respect to its balance of payments",66 or where there is "a sudden crisis in the balance of payments".67 The requirement to take those protective measures derives from.the obligation Member States have under Article 104. The escape clauses, however, restrain this obligation by subjecting 65 M. Seidel, "Escape Clauses in.European Community Law with special Reference to Capital Movements", 15 C.M.L. Rev. 283 (1978) . 66 Art. 108(1) . . ."•••••• 67 Art. 109. 89--• 1 -j these measures to the authorization of the Commission.68 Article 108:1 requires that the disequilibrium in the balance of payments must either effect the functioning of the Common Market or the establishment of the common commercial policy. Subsequent to an investigation of the position of the Member State in question and the measures it has taken or may take pursuant to Article 104, the Commission recommends appropriate measures. In case these measures do not prove to be sufficient to remedy the disturbances the Commission recommends after consultation with the Council and the Monetary Committee mutual assistance, which then is granted by the Council by a qualified majority vote.69 If none of the remedies are sufficient or mutual assistance was rejected by the Council, the Commission grants an authorization to the Member State to introduce recommended measures which are specified and determined by the Commission. In order to invoke Article 109 the Member State must, as an additional precondition, find itself in a crisis of completely unforeseeable suddenness which then enables the Member State to take, unilaterally precautionary measures if no immediate decision under Article 108(2) is taken. No authorization of the Commission is needed at this stage. However, immediate notification by the Member State to the Commission and the other Member States is required to fulfil the basic requirement for the 68 Art. 108(3) . 69 Art. 108(2) . 90--j* functioning of the Common Market. That means that notification has to be made no later than the day the measure takes effect.70 The measures may only be temporarily, Pending the implementation of the procedure of Article 108.71 2.2. A u t h o r i s a t i o n s g r a n t e d to Member Stat. Both of these escape clauses have been frequently invoked for capital movement and thus, resulted in a restrictive impact on FDI within the EEC. With the exception of the Benelux countries, all Member States made use of the escape clauses at least once and could derogate from certain obligations of the free movement of capital.72 In particular, France set a significant example when 70 commission v. France, 9 CMLR (1970), 43. 71 In addition, measures taken under Article 108(3) and under Article 109 are subject to the decision of the Council who may revoke or change the conditions of an authorization granted by the Commission pursuant to Article 108(3) or amend, suspend or abolish the protective measures under Article 109. 72 See, for example, Decisions 74/287, EC O.J. L152/18, 76/44&, EC O.J. L120/30, 81/803, EC O.J. L296/50 providing for the deposit requirement of 50% of the Value of foreign investment by residents in an interest-free account imposed by Italy in 1974 to remedy the precarious balance of payment situation because of a serious drain on its monetary reserves affected primarily the purchase of foreign exchange and got frequently re~introduced ' with some variation in the percentage until 1987; and the Order of 2 February 1973 in Bundesgesetzblatt, vol, 1, 49 et seq'. • Restrictions on certain direct investments by non-residents,/ on the transfer of domestic securities to non-residents and loans or other credits contracted with nsn-residents which w@r'e imposed 1973 by the German Government to counter speculative capital movements resulting from the weakness of the U.S. Dollar, : 91-• • -j its government imposed restrictions on FDI in the form of exchange controls on all capital movement as a reaction to the crisis in May 1968 resulting from the student unrest and subsequent strikes.73 Also the "newer" Member States,74 Greece,75 Ireland76 and the United Kingdom77 relied on escape clauses since the expiry of their transitional arrangements provided for in their Acts of Accession. 2.3. Repeal of Authorizations In 1984 the Commission started to revise the previously granted authorizations in congruence with the furthering of the liberalization of the movement of capital.78 It subjected protective measures taken under the escape clauses to an 73 Decisions 68/301, EC O.J. X, 178/15, 68/406, EC O.J. L295/10. 1978 EC O.J. L 45/28 Denmark relied on the escape clause only with respect to portfolio investment. This authorization was abolished by the Commission through Decision 85/17, EC O.J. L8/37. 75 Decision 85/594 1985 EC O.J. L 373/9) as last amended by Decision 87/152 EC O.J. L63/38. Decision 78/153 EC O.J. L 45/29. Decision 75/487 EC O.J. L211/29 modified by Decision 77/457 EC O.J. L179/30 as amended by Decision 78/154 EC O.J. L 45/30. see Commission Decisions 85/14, EC O.J. L '8/21 (France); 85/15, EC O.J. L 8/32 (Ireland); 85/16, EC O.J. L 8/34 (Italy); 85/17, EC O.J. L 8/37 (Denmark:repeal). 92--authorization which specifies the measures and set a specific expiry date for these authorizations.79 With this revision the Commission limited significantly the power of national governments to take protective measures in case of balance of payment difficulties. Moreover, it tightened the conditions under which an authorization would be granted. This had the effect that the authorization granted to France was abolished in 1986,80 and the one to Italy in 1987.81 Ireland's82 and Greece's83 authorizations to derogate from Community law elapsed in the end of 1988 and 1989 respectively. The derogations granted to the United Kingdom were abolished by Decision of December 3, 1980.84 Thus, the Commission made clear that the formerly frequent recourse of Member States to escape c.'.auses is no longer an easily attainable means in order to introduce restrictions on capital movement. Moreover, the use of national protective uutiuumss constitutes a breach of the Treaty and could be brought in front of the ECJ. 79 ibid. 80 Decision 86/275, EC O.J. L 171/72. 81 Decision 87/414, EC O.J. L224/1. 82 Decision 88/12, EC O.J. L5/39. 83 Decision 83/600, EC O.J. L325/58. 84 see Smit/Herzog, supra note 4, para. 69.15. 93--It is submitted that under the Commission1s current practice on the authorization of protective national measures adopted under escape clauses, restrictive measures on direct investment within the EEC can only be expected in Spain and Portugal, and in Greece and Ireland pursuant to Article 6:2 of Directive 88/361.85 V. CURRENT PAYMENTS AND TRANSFERS, ARTICLE 106 The free transfer of capital and current payments contribute to a positive investment climate. Therefore, it is important to analyse the degree of liberalization achieved in this field. 1. Definition and Distinction to Capital Movement The liberalization of current payments is governed by Articles 106 and 67(2). These provisions overlap and to some extent conflict with each other. On the one hand, Article 106(1) provides that payments connected with the freedom of movement of capital need only to be authorized by the Member States as far as th<= underlying capital transactions themselves have been 85 Annex IV sets out that Greece, Ireland, Portugal and Spain may apply or reintroduce restrictions until December 31, 1992, and certain capital movement have to be fully liberated by Portugal and Spain by December 31, 1990. Since these transactions concern primarily operations in securities and in units of collective investment undertakings, they may have a mere indirect effect on direct investment. 94 --liberalized, on the other hand Article 67(2) stipulates that by the end of the first stage,86 i.e. January 1, 1962, all current payments relating to capital movement were to be liberalized. Moreover, Article 106(1) is restricted in its scope in the sense that it is only applicable to payments made in the currency of the Member State where the creditor or beneficiary resides. Therefore, payments made in a currency of a third country are not covered by that provision. Meanwhile, Article 67(2) does not provide for any restrictions toward third countries but includes the transfer of investment income such as profits and the payment of rents, dividends and interest.87 Both provisions have direct effect so that they need no implementation.88 Thus, the question how to distinguish between current payments and capital movement was of high importance since the latter could only be liberalized to the extent as prescribed by directives. Art. 8(1) refers to the first stage as the first four-year period. 87 The authors of the Treaty took the term "current payments" essentially from Article 19 of the Bretton Woods Agreement, see in Articles of International Monetary Fund (Wash., D.C., December 27, 1945: 60 Stat. 1401, T.I.A.S. No. 1501, 2 U.N.T.S. 39). 88 see D. Vaughan, supra note 4, para. 17.22.,'J.-C. Seche, supra note 6, para. 18.02; Smit/Herzog, supra note 4, para. 106.06. 95--The ECJ determined the difference in Cases Luisi and Carbone89 when it held that physical transfer of banknotes is not necessarily a capital movement as follows: "The general scheme of the Treaty shows, and a comparison between Articles 67 and 106 confirms, that the current payments covered by Article 106 are transfers of foreign exchange which constitute the consideration within the context of an underlying transaction, whilst the movements of capital covered by Article 67 are financial operations essentially concerned with the investment of the funds in question rather than remuneration for a service. For that reason movements of capital may themselves give rise to current payments, as is implied by Articles 67(2) and 106(1)". This distinction was of primary importance for payments related to services and goods since these freedoms were directly effective by the end of the transitional period while capital movement was not fully liberated until the entry into force of Directive 88/361. Thus, if an operation would qualify as a current payment related to a service or a good it would be fully liberalized whereas if it would qualify as a capital movement restrictions would be applicable. In the following, control mechanisms applied to payments in connection with FDI and the liberalization brought about by Directive 887361 will be examined. 89 Cases Luisi & Carbone 286/82 &'26/83, at 404, Grd. 2 1 , supra note 24. 2. Full Liberalisation 2.1. Current Payments and Transfers The ECJ ruled in Luisi and Carbone that the Member States may retain the power to impose controls on transfers of foreign currency in order to verify that the transfers were not in reality used for an unauthorized capital movement.90 However, the Court contended that "such controls may not be applied in such a manner as to render those freedoms illusory or to subject the exercise thereof to the discretion of the administrative authorities".91 The ECJ ruled that the Member States had the right to adopt control measures and enforce them even by means of criminal penalties if this rule of proportionality is respected, i. e. a penalty is not complying with Community law if it is "... so disproportionate to the gravity of the infringement that it becomes an obstacle to the exercise of that freedom".92 Liberalization of current payments and transfers connected to direct investment had to be guaranteed by Article 106, if they were effected through the usual commercial practice, that means as far as necessary to exercise free movement of capital.93. 90 ibid., at 406, Grd. 31. 91 ibid., at 406, Grd. 34. 92.. Casati Case 203/80, at 2618, Grd. 27, supra note 18. 93 ibid., at 2617, Grd. 24. 97--As discussed earlier Directive 88/3 61 fully liberalized movement of capital so that general or specific authorization procedures of capital transactions are otiose. Consequently, the same holds true for the controls imposed by Member States to verify current payments. 2.2. Restrictions solely on Payments. Article 106f2) Article 106 stipulates in its second paragraph that restrictions which solely impede the payments have to be eliminated. This covers laws and regulations of a Member State which inspite of the absence of restrictions on the basic transaction often impede capital movement because of the restrictions imposed on the related payments. Article 106(2) aims at an abolition of these restrictions at the same pace as the removal of restrictions of the movement of capital takes place. Therefore, with the proclamation of the new Directive 88/361 restrictions as regards payments related to direct investment may only remain or may be introduced94 in accordance with the exceptions stipulated in the Acts of Accession of Spain and Portugal.95 94 Directive 88/361, supra n t e 31, Art. 5. 95 see supra note 61, Spain: Arts. 62 & 63 regarding direct investments exceptions are permitted until December 31. 1990, Portugal: Articles 222 & 224 regarding direct investment by non-residents restrictions had to be eliminated by, December 31, 1989, exceptions regarding direct investment abroad are permitted until December 31, 1992. 98 — -jf To sum up, current payments and transfers connected to direct investment within the EEC are fully liberalized with the exceptions of transitional measures and measures related to the access of statistical information. Subsequently, restrictions formerly imposed by Member States for means of verification of a particular transaction are no longer permitted. VI. CONCLUSION Some reservation can be made to the so frequently lauded complete liberalization of capital movement reached with the enactment of the SEA. Although the transitional measures regarding Spain and Portugal and Member States with extraordinary monetary and economic difficulties, such as Greece and Ireland are necessary for the smooth adaptation to the liberalized internal market of capital, their restrictive impact cannot be denied. Their temporary existence demanding elimination by the end of 19 seems rather questionable. In particular, as regards Portugal doubts arise that FDI is fully liberalized. Its fear of getting "bough'u out" by Spain may easily cause extensions in its restrictions to direct investment.96 96 N. Bray, "Spain emerging as trade winner in deal with Lisbon", Globe and Mail, May 29, 1990, p. B 2, stating that, the number of Spanish-owned companies has tripled since 1986 to 1300 and Portuguese-owned companies only increased from 50 to 90. New Spanish Investment of mgre than 55 billion pesetas (U'.S. $525 million), nine times more than in 1986, was authorized by Portugal, meanwhile Porttcguese investments in Spain merely iseufited to 4. a billion pesetas. Also, Directive 88/361 needs to be implemented into national legislation of the Member States in order to confer legal rights on individuals. It has to be awaited to see if Member States will actually comply with their obligation in the time period as foreseen by the SEA Nonetheless, Directive 88/361 has finally eliminated the different categories of transactions subject to different degrees of liberalization by requiring the abolition of all restrictions on movement of capital taking place between residents of the Member States, thereby liberalizing also payments and transfers related to FDI. In addition, the Commission's restrictive practice on the grant of authorizations to Member States to adopt protective measures on FDI and the actual repeal of several existing authorizations rises well-founded expectations that escape clauses belong to the past. Thus, their restrictive injpact on direct investment is largely abolished. Moreover, the statement of Commissioner Sir Leon Brittan which emphasised that the freest possible flow of capital is vital for the economic growth in the Community97 demonstrates the determination of' the EEC Commission to support strongly the unrestricted implementation of this new Directive. 97. see Tom Dickson "Brussels to rule out border curbs on pension funds", Financial Times, 3 July 1990, p. 1. 100-W W 3 MERGER CONTROL ON COMMONr},'*! A NEW INSTRUMENT TO ENHANCE DIRfcCtf W H S T M E N T I. INTRODUCTION As discussed in the two p^Wlous chapters, FDI within the Community is largely depends^ OH the regulation of the right of establishment and the freedom H movement of capital. In addition, the regulation of ^CjjApetition, in particular, the regulation of concentrations'1 of great importance in this field. Since the Treaty provide investors with the right of establishment and free movew^n^ of capital investors have greater flexibility within the EEC i n turn, enhances merging activities of companies. the competition rules of the Treaty do not establish ^ ^pscific regulation on concentrations. The reasons this omission are rather obvious taking into consideration tb^ £(?ohomic situation at the time of the creation of the EEC. In the late 1950's, l a r ^ multinational enterprises, particularly from the U.S., into Europe gaining control of more and more markets of imp^Pahce to the European economy. In 1 The term concentration is the most frequently used in the Community documents whic^ £<?Vers both mergers and take-overs. The terms will be use intar-^tWgeablyin this chapter. 101- -reaction to this influx of foreign enterprises, the European countries took the position that Community wide mergers of European companies were of advantage to the Common Market because large European concentrations could develop European industries capable of competing effectively with foreign multinational enterprises. The perception was that with no or few restrictions, the probability of enhanced economies of scale was much larger so that the strong competition of U.S. undertakings in European markets could be met and independent European industries could be established.2 Although this position changed with the emerging case law of the ECJ, a comprehensive merger control regulation was only adopted in the Council of Ministers on December 21, 1989.3 Its adoption has to be seen in context with the changes in the industrial policy brought about by SEA.4 This chapter will analyse whether the Merger Control 2 see for example, J. Temple Lang, The Common Market and Common Law. (Chicago: The University of Chicago Press, 1966), at 428; Merger Control in the EEC (London: Kluwer, 1988), at 222; R.M.-Buxbaum and K.J. Hopt, "Legal Harmonization and-the Business Enterprises: Corporate and Capital Market Law Harmonization Policy in Europe and the U.S.A.", Integration Through Law: Europe and the American Federal Experience, Vol.4, M. Capelletti, M. Seccombe, J. Weiler (eds.) (New York: Walter de Gruyter, 1988), at 225. 1 Regulation the Control of Concentrations between Undertakings No. 4064/89, reprinted in C.M.R.(CCH), para. 2839 [hereinafter '-Merger Control Regulation" or "Regulation"]. 4 see discussion, supra Part I, Introduction, section 2. 102-Regulation achieved to implement its primary objectives, i.e. to ensure effective competition and to provide simultaneously legal certainty for potential investors within the Community. It will be concluded, that the Regulation definitely improves the predictability and the procedural aspects for the appraisal of large mergers. However, some reservations have to be made as regards the clarity to distinct between Community and Member States' competence. The analysis will also show that this lack of clear distinction between competence is mainly due to the concern of some Member States to maintain their economic sovereignty in this field. ' Before entering the subject matter, it is necessary to discuss the role the competition rules took in the field, of merger control prior to the enactment of the Regulation. It will demonstrate the problems arising from the omission to regulate mergers and its restrictive impact on FDI. To this end, the function and structure of Treaty's competition rules will be brief-ly introduced,' and Articles 85 and 86 of the Treaty of Rome,5 and the case law of the ECJ will be examined in more detail. All Articles cited in this chapter shall be presumed be from the Treaty of Rome unless otherwise indicated. to 103-II. BRIEF OVERVIEW OF THE REGULATION OF COMPETITION UNDER THE TREATY OP ROME 1. Scops The EEC competition rules are set out in Chapter 1 of Title I in Part III of the Treaty of Rome forming a section of the Common Rules of,the Community Policy. The provisions on competition consist of the rules applying to undertakings (Articles 85 to 90), intra-Community dumping in the transitional period (Article 91), and aids granted by Member States (Articles 92 to 94). They are designed to safeguard free competition within the common market and apply to all economic sectors including transport with the exception of coal and steel,6 nuclear energy7 and security and defense products.8 The agricultural sector is covered by competition rules only to the extent determined by the Council. This regulation gives priority to the Common Agricultural Policy.9 Of' the competition rules, 6. Arts. 65 to 67 of the Treaty establishing the European Coal and Steel Community signed in Paris on April 18,.1951.. . Art. 232 (2). However, certain agreements are considered to come under the competition rules, see EEC Commission Decisions 76/248 [1976] 2 CMLR DI; 76/249 [1976] 2 CMLil D15," 82/742 [1983] 1 CMLR 619. 8.... Art. '223. . ' ••••;.',•. 9. Arts. 42, 43. 104 -Articles 85 and 86 are most relevant to merger control. 2. Principles and Objectives The primary goal of Articles 85 and 86 is to prevent private business agreements and industrial concentrations from nullifying Community-wide competition. Their scope will be discussed in further detail below, but shall be briefly summarized at this point as follows: Article 85 declares unlawful agreements between enterprises, decisions by associations of undertakings and concerted practices restraining trade and aiming or resulting in the prevention, restriction or distortion of competition within the Common Market whereas Article 86 prohibits the abuse of a dominant position in so far as it may affect trade between Member States. The function of these Articles is to ensure that private agreements shall not replace the decrease of tariffs and other restrictions which have been achieved by the Treaty.10 Thus, unlike the regulation of the right of establishment and movement of capital, the competition rules are directly addressed to .7 private undertakings and not to the Member States.11 10. see also F.R. Root, International Trade and Investment. (4th ed.) (Pennsylvania: South Western Publishing Co. 1978) at 204. ..••.••••••.••:••:..•:••..•..•••••:.••• .•".•• • • . . The interesting problem recently addressed,by the Court on the obligation of Member States not to enact economic regulations which would deprive Article 85 of its effectiveness or prejudice its full and uniform application cannot be discussed 3. Application under Articles 85 and 86 105--J" : 3.1. Direct Effect of Treaty Provisions The early disputes as to whether Articles 85 and 86 have d i r e c t e f f e c t in the Member Ststas, or merely established specific principles requiring regulations pursuant to Article 87 in order to be applicable ("Prinzipientheorie"), or whether they conferred certain powers to the competent authorities to decide t h e c a s e s in question according to Articles 85 and 86 ("Ermaechtigungstheorie"), are solved.12 The "direct effect" theory13 prevailed and established that Articles 85 and 86 are fully self-executing in the Member States. Accordingly, the prohibition contained in the competition rules of the Treaty have been held to create right in favour of natural and legal persons which the national courts must safeguard.14 in this work as it is not pertinent to the subject matter. For a detailed discussion see L. Gyselen, "State Action and the Effectiveness of the EEC Treaty's Competition Provisions", 26 C.M.L.Rev. 33 to 60 (1989). see for further detail Smit/Herzog, The Law of the European Community: A Commentary on the EEC Treaty, (New York: Matthew Bender, 1976-90) Vol. 2, para. 85.04 [a]. see for example the leading case, Eur. Ct. of J, Case No. 26/62 NV Algemene Transport en Expeditie Onderneming van Gend en Loos v. Nederlandse Tarief Commissie [1963] ECR 1 at 12; see for further detail supra Part I, Introduction, Section II.2. 14 Eur. Ct. of J., cases No. 127/73 BRT v. SV SABAM [1974] ECR 5 1 and No. 26/76 Metro SB-Grossmaerkte GmbH & Co. KG V. Commission [ 1977] ECR 1875. 106--3.2. Supremacy of Community Law Articles 85 and 86 do not, however, preclude Member States from enacting national competition laws. National authorities may act when the Community has not asserted its authority or when national rules serve an objective different from those of the Community but which nevertheless comply with the general principles and provisions of the Treaty.15 Primarily, these differences stem from the "internal" perspective of Member States pursuing the prosperity of their national markets, as opposed'to the Commission's position perceiving the 12 national markets as one single common market. Hence, national laws are intended to protect competition within the Member State's market, whereas Articles 85 and 86 apply to the Common Market as a whole. In the case where a business activity of a company within a Member State's internal market affects also intra-Community trade, not only national competition laws but also Community law, come into play. If this situation creates a conflict between the Community rules and the national laws, the principle of supremacy of Community law applies16 and 15 see also J.J. Norton, "International Law and the Remaking of Western Europe: The Contributions of the Treaty establishing the European Economic Community", Public International Law and the Future World Order. (Littleton: F.B. Rothmans & Co., 1987), at 18-21; Gleiss/Hirsch, Common Market Cartel Law f based on EWG-Kartellrecht, (3rd) (Wash., D.C.: ' Bureau of National Affairs, Inc., 1981), at 25; Smit/Herzog, supra note 9, Vol. 2, para.'85.04. 16 Eur. Ct. of J. Case No. 14/68 Wat Wilhelm v. BKA [1969] 8 CMLR 100. • • 107-thus, Article 85 or 86 would override national law. The competition rules have a large impact on national competition policies as they directly apply to private undertakings regardless of differing national competition laws. The Member States conceded to restrict their economic sovereignty in this area to a comparatively larger extent than in the areas of company laws or regulations on capital movement. 3.3. Implementation by Regulation No. 17 Articles 85 and 86 were implemented by enactment of Regulation 17 which was adopted by the Council pursuant to Article 87 on March 13, 1962.17 This Article confers upon the Council the power to take the appropriate regulations to give effect to the principles set out under Articles 85 and 86. With the adoption of Regulation 17, the Council empowered the Commission to apply and enforce Community competition rules which were formerly exercised by the national authorities of the Member States. The regulation sought to constitute a uniform application of competition rules in the Member States. It conferred supervisory and administrative powers upon the Commission in so far as was necessary for their coherent enforcement. Thus, the Commission received the competence to exercise a 17... EEC Council Regulation No. 17/62, EC O.J. of February 21, 1962, L204/62. Despite the adoption of further regulations in the area, Regulation 17 remained to be the most important one. 108-broad discretion to find, investigate, and prosecute violations of Articles 85 and 86. It could also grant or deny clearances or exemptions under these provisions. It was only until the recent entry into force of the Merger Control Regulation 4064/89 that the applicability of Regulation 17 was for the first time restricted.18 III. MERGER CONTROL UNDER THE TREATY, ARTICLES 85 AND 86 1. Omission under Articles 85 and 86 For the purpose of this chapter, the analysis of the wording of Article 85 can be restricted to the question of whether the provision can be applied to concentrations and if so to what extent. It will be refrained from a discussion of the famous "Doctrine of Effect" and the variously granted individual and group exemptions. Article 85(1) furnishes an illustrative list of examples of prohibited conducts'related to agreements, decisions,_and concerted practices. The list expressly names the direct or indirect fixing of purchase or selling prices or any other trading conditions; the limitation or control of production, markets, technical development, or investment; the application of 18 Regulation, supra note 3, Art, 22(2) provides that Regulation No. 17 is excluded from the application to concentrations covered by Art. 3 of the Regulation. 109-dissimilar conditions to equivalent transactions with other trading parties, thereby placing them at a competitive disadvantage, and the conclusion of contracts subject to acceptance by the other parties c£ supplementary obligations Which, by thoj.r nature or according to commercial usage, have no connection with the subjiect of such contracts.19 Article 85(2) declares automatically void such agreements, decisions and concerted practices prohibited under Article 85(1). Despite a comprehensive coverage of what establishes an anti-competitive conduct it is evident that Article 85 fails to specifically provide for merger control. The prevailing view was that Article 85 did not cover concentrations and could not be interpreted differently.20 Article 86 is directed against the abuse of a dominant market position by a unilateral action causing a detrimental impact on the intra-Community trade. It provides a list of see Art. 85(1) 20- see EEC Commission: The Problem of Concentration of Enterprises in the Common Market, Studies Competition, Series 3 (1966), reprinted in CCH C.M.R. No. 26, Part 1, 229. The Commission Memorandum on Concentrations of 1966 expressed the view t"hat the possible application of Article 85 to merger • control could not be supported by the reading of the Treaty. ; • The Commission supported its view which was based on the economic background of the EEC at the time it was created and the wording of the Treaty establishing the coal and Sttsel Community signed in Paris on.April 18, 1951 ("the ECSC Treaty")< In contrast to the competition provisions under EEC Treaty, the competition rules of the ECSC Treaty, Articles 65 and 66, deal expressly with concentrations . • .,' ' 1 1 0 examples demonstrating the conduct which establishes such abuse, such as the direct or indirect imposition of unfair purchase or selling prices, the limitation of production, markets or technical development to the prejudice of the consumer, the application of dissimilar conditions to equivalent transactions with other trading parties, thereby placing them at a competitive disadvantage, and finally the conclusion of contracts subject to acceptance by the other parties of supplementary obligations which have no connection with the subject of such contracts.21 Article 86 applies only when three conditions are met. First, there must be a dominant market position held either by one or several parties to the contract covering at least a substantial part of the common market. Second, an abuse of that market position must occur through unilateral action, and third, the trade between the Member States must have been affected by such abuse. Thus, Article 86 is rather restricted in its scope to control a concentration since it lacks to provide for a comprehensive regulation prior to the creation of a concentration impeding effective competition within the Common Market. The competition rules of the Treaty of Rome were only applicable in the following situations: (1) Article 36 applied in case of a completed full and permanent merger of undertakings into a single economic see £rt. 86(a) to (d). • ' • 111 unit; (2) Article 85 covered aspects of a merger that remain independent of one another, while Article 86 applied to the balance; (3) Article 85 only applied when there was no merger in this sense that no single economic unit was created or the arrangements were not permanent. As a result, agreements aimed at the acquisition or control of total or partial ownership of enterprises22 or the re-organisation of the ownership of companies,, such as mergers, acquisition of holdings, and purchases of the.assets were not covered by the Treaty provisions. However, the case law of the Court widens.d the scope of competition rules with respect to concentrations. The Continental Can case23 was decided by the ECJ in 1973 on the applicability of Article 86 which was followed by the doc.is.ion of November 17, 1987 in the Philip Morris/Rothmanrs case on. the 22-. The Commission re-established this position in its . decision on the SHV/Chevron case (75/95 OJ L 38/14 of. S ' r'-miary 12, 1975) where the Commission took the view that mergers fall outside the scope of Article 85 if they create "partial concentrations". These concentrations are established if two companies merge part of their activities into an irrevocable economic unit which results in a lasting change in ch®. structure of the companies in question. . Eur. Ct. of J. Case No. 6/72 Europemballag® 'Corporation and Continental Can Co. Inc. v. Commission [1973] ECR 213 [hereinafter Continental Can case]. 112--applicability of Article 85.24 2. Merger Control estallished by the court 2jJL—Article 86: Chancres effected bv the Continental Can Case In this decision the Court enunciated that an acquisition by a dominant undertaking of a majority shareholding in a competing undertaking per se may be prohibited even though the acquisition is not accompanied by any kind of anti-competitive behaviour. This position was based on the Court's reasoning that a mere distinction between measures which concern the structure of the undertaking and practices which affect the market cannot be decisive for the applicability of Article 86. i The Court maintained that a structural change may influence the market conditions in the same way as the practices listed in Article 86, if such change increases the size and the economic power of the undertaking. The absence of explicit provisions in the Treaty does not permit undertakings after merging into an organic unity to reach such a dominant position that any serious chance of competition is practically rendered impossible. .This would establish a contradiction to the basic principles of the Common Market since the partitioning of a substantial part would be allowed. The applicability of Article 86 was also extended as ' 24., Eur. Ct. of J., cases No. 142 and 152/84 British American Tobacco Company Ltd. and R.J. Reynolds Industries Inc. v. Commission of the European Communities [1987] ECR 4487 [hereinafter Philip Morris/Rothmans case]. I— . .. ..ti.r;-.- - .- * i , r •- • • - ' " ., 113 --to cover the situation where only undertaking remained in the • market whose behaviour depend on the dominant one.'5 With this judgment the door was opened to control, mergers and take-overs. Nevertheless, the serious drawback remained in place that Article 86 was only applicable after the execution of such merger.26 The only sanction available to the Commission was a divestiture order which could restore an undistorted system of competition. This remedy was hardly ever imposed by the Commission due to the difficulties involved in s e t t i n g aside what has already been done.27 As a result, Article 66 was never applied to actually block a merger.28 .2.2. Article 85: Changes effected bv the Philip Morris/Rothmans Case The Philip Morris/Rothmans case provided the Commission with a more effective instrument to safeguard competition since the case broadened the scope of Article 85 to include mergers. The changes the case brought about can be briefly summarized as supra note-2 3, Grd. 26, 245. 26 Sae, for example the recent case of British Airways and British Caledonian [1988] 4 CLMR, 258. 27 Merger Control in the EECr supra note 2, at 219. 28 see P.S. Crampton, Mergers and the Competition Act (Toronto: Carswell, 1990) at 197, note 703 and 704; ,D: Vaughan, Law of the European Communities (London: Butterworths, 1986), Vol. 2, Para. 19.90, note 2. 114- -follows: The Court held that the acquisition by one company of a shareholding in a competitor may serve as an instrument for influencing the commercial conduct of the companies in question so as to be incompatible with the Common Market, although such an acquisition does not by itself constitute conduct restricting competition. Article 85 applies where, by the acquisition of a shareholding or through subsidiary elates in the agreement, the investing company obtains legal or de f&cto control of the commercial conduct of the other company.29 The same holds true where the agreement provides commercial cooperation between the companies or creates a {structure which is likely to be used for such cooperation, or where the agreement gives the investor the possibility of reinforcing its position at a later stage and taking effective contxol of the ©th«r company.30 Such agreements must be appraised with regard to their economic context and the relevant market. Accordingly, particular vigilance can be exercise® by the Commission in a stagnant and oligopolistic market wherg high barriers to entry exist. 1 Although the case strengthened the Commission's control of snora note 24. at 4577, Grd. 38. ibid,, at 4577, Grd. 39. ibid,„ at 4577,, Grd. 40. 29 30 31 115 j* mergers to a large extent, it did not tackle a variety of problems associated with the application of Article 85 to mergers.32 More importantly, mergers were often impeded because of the .inconvenience enterprises experienced when they had to be approved by national authorities and the Commission, Also, tihe lengthy process to reach a decision created a significant impediment to FDI as tiha status of mergers was legally uncertain. For example, in the Philip Horris/Rothmans case the initial share acquisition was in April 1381 and the final decision of the Court was only in November 1987^ The reliance on the Treaty provisions in order to control concentrations remained inadequate to provide the investor with more legal certainty and to enhance direct investment activities. A merger control regulation was urgently needed to eliminate the above mentioned hurdles to a free flow of EDI. One problem establishes the so-called "stock exchange question" , Stock exchange purchases of a shareholding in a major competitor are undertaken on a unilateral basis. Article 85 is, however, viewed to be inapplicable to unilateral activities so that such a purchase would fall outside its scope. Accordingly, a wide range of concentrations would not be covered by the. regulation of mergers. In addition, the applicability of Regulation No. 17 to mergers, is problematic in the sense that its Article 8 provides for exemptions for a limited time and can be revoked subsequent to changes of the facts on which the decision was based. Exemptions on concentrations, however, are only appropriate if they are indefinite. IV. THE INSTITUTION OF MERGER CONTROL UNDER THE SEA 116-With the adoption by the Council of Ministers of the Regulation an the Control of Concentrations between Undertakings on December 21, 1989, a regime to control large-scale mergers wa^ for the first time introduced under Community law. This Regulation evolved eventually out of long lasting negotiations and amendments over more than 16 years. The first proposal on merger control was actually rendered by the Commission in 1973 which was already -at that time a rather late date to tackle the difficulties evoked by the enhanced tendency of European companies to merge in the late 1950's. However, it took until. September 21, 1990 for the first control on Community level for mergers within the Common Market to enter into force. The reason for this delay can be best explained by the assessment of John Temple Lang made in 1966: The Commission is unlikely to undertake the task of enactment and implementation of a regulation dealing with mergers for some time, since Articles 85 and 86 will require several years of work before a comprehensive policy on private restrictions on competition is worked out." The progress toward the completion of a single market made Member States finally recognize that the regulation of concentrations throughout the Community was essential.for- a regime .of undistorted competition. This acknowledgement was 33 J. Temple Lang, supra note 2, at 429. primarily based on three reasons: 117-(1) the realization of full benefits of an integrated market was only possible if competition policy is exercised at a Community level; (2) the fact that the restructuring of industry gave rise to more cross-border mergers and therefore, a merger policy became indispensable in order to preserve competition that would enhance innovation and technical progress; (3) the recognition that there would be no possibility to , assess effectively cross-border concentrations if it would he left to the diverse national systems of merger control since structural changes can be more adequately controlled on a Community level.34 However, these ideas were not fully implemented into the Regulation as some Member States were anxious to preserve their competence in this domain. Legal Basis -- -The Regulation is based on Article 87 which empowers the council to enact regulations or directives which put into effect the principles set out under Articles 85 and 86* However, as 34 see alsa discussion by Prof. M. Porter in "Europe Companies after 1992: Don't collaborate,_compete", The Economist, June 9, 1990., 17-19. 118-Articles 85 and 86 do not provide for the prohibition of mergers or the break-up of a dominant position, the adoption of a regulation that may confer these powers is not covered by Article 87. Since Article 87 is not sufficient to encompass all the activities which may be incompatible with the system of undistorted competition,35 the regulation is mainly based on Article 235. This provision enables the Community to empower itself in areas which are not expressly set out in the Treaty but are necessary for the achievement of its objectives. However, the adoption of the Regulation pursuant to both Articles prejudices its efficiency in so far a8 it creates some legal uncertainty. 2. Basic Principles The basic principles underlying the Regulation 4064/89 which will come up in its further discussion can be summarized as fo Hows: (1) the regulation enacts the new "one-stop" approach which is expected to provide much greater legal certainty to undertakings involved in a concentrated activity within the Common Market.36 The term 35 Regulation No. 4064/89, supra note 3, Preamble, para. • 6, reprinted in CMR CCH, Para. 2839. 36. see 11, 5. 87 COM(87) 203 final, Second Report from the Commission to the Council and the European Parliament on the Implementation of the Commission's White Paper on Completing the 119-"one-stop" stands for the determination when an undertaking has to deal with the Commission, i.e. larger cross-border mergers, or the national authorities, i. e. smaller concentrations;37 (2) it emphasizes the applicability to Community-wide mergers in order to prevent dominant market positions that have an adverse effect to intra-Community competition;38 (3) the provision for the Member States to participate under certain conditions in the review procedure of a "Community"-concentration.39 3. scope o f the Regulation The Regulation is much narrower than Compromises had to be made in order to be Internal Market (Luxembourg\ Office for Publications, Doc., 1987), at pt. 5. 37 see infra section IV.3.1. for the determining criteria and section IV.3.2. for the thresholds. 38 see infra section IV. 4. 39 see infra section'V.l. originally proposed.40 adopted by the Council 40. EEC Commission "Proposal Regulation on the'Control of Mergers", O.J. 1973 C92/1. 12 Ou r of Ministers. Thus, a rather vague wording evolved as to whether a concentration would come under its scope or would fall under other regulations implementing the competition rules of the Treaty. In addition, high thresholds were inserted to determine whether a merger qualified for investigation in order to appease especially German and British concerns.41 This vague wording was, however, mainly eliminated by the Commission's Noti ce Regarding the Concentrative and Co-operative Operations under Council Recruiation No. 4064/89 of December 1989 on the Control of Concentrations between Undertakinss (the "Notice") expressing its view on the subject matter.42 3.1. Determination of Concentrations Concentrations coming under the scope of the Regulation are, pursuant to Article 3(1), deemed to arise where two or more previously independent undertakings merge, or where one or more persons controlling at least one undertaking, or one or more undertakings acquire by purchase of securities or assets, by contract or other means the direct or indirect control of the whole or parts of one or more other undertakings. Article,3(2) determines that the Regulation only applies to "concentrative" , 41, The United Kingdom and West Germany were reluctant to transfer their strong domestic control of mergers to Brussels. Initially the West German Bundeskartellamt was holding out for a threshold of 10 billion ECU's below which a merger would not be subject to European Commission scrutiny. EC O.J. 1990 C203/10. 121-but not to "co-operative" situations/3 However, the Regulation fails to provide precise criteria to distinguish between the two forms of operations. As a result, it is legally uncertain as to whether an operation has to be notified under the Regulation or pursuant to Articles 85 and 3.6, In order to eliminate these omissions the Commission issued the Notice. It distinguishes between concentrative and co-operative situations. An operation which invokes a lasting change in the siruc t u r e of the undertakings in question is referred to as c o n c a t i v e and comes under the scope of Article 3, whereas an oparation entered into with the object or effect coordinating comp"^ t i v e behaviour of independent undertakings is referred to as co-operative and falls, if at all, ufl^er Regulations implementing Articles 85 and 86.44 ^fticles 85 and 86 are also applicable in cases where concentratrfe a n d co-operative elements are involved in the same operation ancl where the two elements constitute an inseparable part of the operation. Only to the extent that the concentrati^ part of the operation can be separated from the co-operative part will the Regulation apply to'it.45 Joint ventures come under its scope when two additional 43 Bpmilation No. 4064/89, supra note 3, Art. 3(2) 44 ibid,, para. 2 . 45 ibid., para. 1. criteria are met. They must have an autonomous character,46 and that there is no indication that the joint venture agreement will influence the competitive conduct of the parent or the joint venture.47 The former is demonstrated by the parent's company independent commercial policy,48 the latter by the common pursuit of interests which will result in the co-ordination of competitive behaviour.49 H o w e v e r , the guidelines fail to provide full clarity where the dividing line between compatible common pursuit of interest and prohibited ep-ordination lies.50 In Article 3(3) the acquisitien ®f «©fttrol is referred to as the "possibility of exercising d^sive influence on an undertaking", For the appraisal of such acquisition of control the following elements are of particular importance: tfee ownership, the right to use the assets of t h e undertaking, or the rights which confer decisive influence on the c@ l nP o s l ' ' - l o n a n ( i behaviour of an organ of the undertaking. The guidelines define the term "decisive influence" only with respect %o joint 46 ibid. , 11. B. 1. . 47 Regulation No. 40S4/*>, supra note 3, Art. 3 (2) , subpara, 2. jo* • 48 ibid,, para. 19. 49 Notice of the Commission, supra note 42, para. 21. 50 ibid., para. 23. ventures.31 With these guidelines, the Commission expresses the approach it would moot likely take in order to distinguish between concentrative and co-operative operations. Nevertheless, the guidelines cannot be viewed as providing a definite answer to all conceivable situations since the Commission preserves its right to further develop its announced practice.52 Instead, it takes the position that an assessment as to whether a concentrative or co-operative situation exists can only be made through the appraisal of the specific circumstances of the individual case. The same holds true for the evaluation as to whether the condition of the acquisition of control is fulfilled. As a consequence, the legal uncertainties of the Regulation are only partly eliminated. 3.2.- liCommunitv Dimension" If a concentration comes under the meaning of Article 3, a further prerequisite has to be met: the Regulation is only applicable to concentrations with a "Community dimension".53. 51 Notice of the Commission, supra note 42, at II. A. 2.& 3: the term "control" is essentially defined as set out under Article 3(3) of the Regulation but adds as an important element to determining the notion of "control" contracts concerning the operation of the venture. , " ; 52 . ibid., paras. 3 & -4. Regulation No. 4064/89, supra n.te 3, Art. 1(1), 124- -This Community dimension is established when the threshold of the combined world-wide turnover of all the undertakings concerned is at least 5 billion ECUs, and the aggregate EC-wide turnover of at least two of the undertakings concerned is more than 250 million ECUs, unless each of the undertakings concerned achieves more than two-thirds of its aggregate EC-wide turnover within the same Member State.54 The threshold is subject to review before December 21, 1993.55 On the current basis, the Commission plans to deal with about 50 mergers a year, leaving a large range of concentrations to the control of national authorities. This competence of national authorities may eventually decrease because the Commission and smaller Member States are requesting a lower threshold for the application of the Regulation. Particularly smaller Member States are interested in a broader coverage of the Regulation. Since in these Member States an effective merger control legislation is often undeveloped or even missing,56 the Merger Regulation could provide them with an adequate means of 54 ibid., Art, 1(2) . 55 ibid., Art. 1(3). 56 Only Germany and the UK have developed effective merger control laws. Germany introduced its merger control in 1973 as the German Law against Restraint of Competition, the UK introduced its merger control in 1965, as the Monopolies and Mergers Act, later consolidated into the Fair Trading Act 1973, but joined of course the EEC only in 1973; the remaining Member States possess either a less developed regulation or no merger control at all. merger control on a Community level. However, doubts were raised with respect to the actual decrease of the threshold.57 3.3. Applicability to Concentrations without "_Caaaunity Dimension" It should be noted that the Regulation provides for an exception with respect to the "Community dimension" of concentrations. Pursuant to Article 22(3) and 22(5) the Commission is empowered to review a concentration without Community dimension which generally would fall outside its jurisdiction. In cases where a Member State lacks a merger control, that Member State can refer a matter to the Commission even if it is in the exclusive jurisdiction of that State. Ir this case the Commission decides on the compatibility of the referred concentration with the Common Market insofar as it affects intra-Community trade. It follows that Member States without a merger control havd a means of scrutinizing concentrations through the usage of Community law if they refer the concentration to the Commission and if intra-Commuriitj trade is affected by such concentration. This provision strongly supports a coherent application of merger control throughout the Community. see infra section V.4. The Regulation also applies to restrictions directly related and necessary to the implementation of concentrations as set out in the second subparagraph of Article 8(2) of the Regulation. The type of restriction that would fall under the Regulation is, however, not clearly defined by this provision. In order to prevent legal uncertainties and the initiation of parallel proceedings,58 the Commission issued a Notice regarding Restrictions ancillary to Concentrations.59 The Commission provides guidelines in this Notice as to the identification of these restrictions which are referred to as "ancillary restrictions".60 These ancillary restrictions have to be subordinate to the main object of the concentration and will be considered necessary wheh a concentration could not be executed without them, or could only be executed under more disadvantageous conditions.61 The Commission lists examples of restrictions excluded from the Regulation's applicability and restrictions falling under its scope, such as non-competition 58 This means, one under the Regulation concerning the assessment of the concentration, and the other aimed at the application of Articles 85 and gS to the "ancillary restrictions". 59 EC O.J. (1990} 203/5. 60 ... ibid., I. 61 ibid., II. clauses, licensing and temporary purchase and supply agreements.62 As decisive criteria for determining the necessity of a restriction, the Commission cites its nature, its duration, the subject matter and geographical field of application. Since these ancillary restrictions are assessed together with the concentration, it follows that a decision approving the concentration also covers these restrictions. 4. Appraisal of Concentrations: Compatibility with the common Market A concentration must be deemed compatible with the objectives of the Common Market in order to be approved by the Commission. Specific criteria are provided in a comprehensive list to evaluate the competitive impact of a merger including: - the structure of the markets concerned and the actual and potential competition from companies;63 - the market position of the undertakings and their economic and financial "power; - the legal and other entry barriers; - the access to suppliers and consumers to supplies and markets; 63 ibid., II. A., B., C. ibid., Art. 2(1)(a). 128-jr - the supply and demand trends; - the interests of intermediate and ultimate consumers; and - the development of technical and economic progress.64 The need to maintain or develop a system of effective competition underlies the whole process of approval.65 In addition, the promotion of economic cohesion within the Community66 has to be considered for the purposes of such evaluation. The test applied, partly modelled after Article 86, goes in fact beyond its scope in requiring a determination of whether "a concentration ...creates or strengthens a dominant position as a result of which effective competition would be significantly impeded in the Common Market or a substantial part of it ... "67 As mentioned earlier, Article 86 only applies to abuse of an existing dominance by its extension. Consequently, the creation or strengthening of a dominant position which results in a significant impediment to effective competition is incompatible with objectives of the Common Market. However, when a merger creates a dominant position in the Common Market or a substantial part of it, but does not restrict competition, it will be considered as compatible. This means 64 ibid., Art. 2(1) (b) . 65 ibid., Art. 2(1) 66 Ibid., Preamble Recital 13. . ' 67 Regulation, supra note 3, Art. 2 (3) 129 -that concentrations between undertakings having a limited market share, are not likely to restrict competition and would be approved by the Commission.68 Such small market share is generally indicated where it is under 25 percent of the aommon Market or a substantial part of it,69 • 5. Commission Powers 5.1. Pxioj: Notification._and Sus0£nsior\ If all the above mentioned requirements are met, the concentration is subject to prior notification to the Commission.70 This notification has to be made within seven days of the conclusion of the agreement, the announcement of the public bid or the acquisition of the controlling interest. It is accompanied by an automatic suspension until three weeks after the notification." Thus, mergers cannot be effected before notification. Only public take-overs may proceed as long as the See .Si-emens Nixdorf Informationssvsteme AG in Commission Decision;of May 11, 1990, IP (90) 378, CMR CCH , para. 2843.25. In this recent case, the proposed acquisition of a /• :' controlling interest in Nixdorf by Siemens had a community., dimension, but did not create or strengthen a dominant position because the increase of market share occurred only in small scale computer systems and private switching markets. . 69 Regulation No. 4064/89, supra note 3, Preamble, Recital 15. 70 ibid, , Art. 4(1) . . . ': ibid., Art. 7(1). purchaser does not exercise its voting rights. However, the implementation of the bid will be subject to subsequent Commission intervention if it is incompatible with the Common Market objectives.72 5.2. Proceedings and Time Limits The initiation and decision of proceedings are subject to strict time limits which purport to accelerate the process of approval. If serious doubts as to the compatibility of the merger with the Common Market occur, the Commission must initiate proceedings within one month after its notification.73 The proceedings can then only be finished if a decision has been rendered. Such decision must be given within four months after the proceedings have been initiated.74 If no decision is taken by the Commission the merger is "deemed to be compatible with the common market".75 However, these time limits are likely to be abused by parties to a merger. Since the Commission must reach a decision as to compatibility within the time limit or the decision is 72 ibid., Art. 7(3). 73 ibid., Arts. 6, 10(1), (5), (6). 74.. ibid., Arts. 8 (1), (2) , (5) , 10 (2). 75 ibid., Art. 10(6). 131-taken out of its hands, the applicants may submit a large amount of information so that the Commission will not be able to cope adequately with it in the prescribed period of time.76 Thus, any unfavourable information may not be detected by the Commission giving the merger a greater chance to be approved. 5.3. Investigation. Enforcement and Penalties The Merger Control Regulation has not brought about significant changes to the Commission's competence to investigate and enforce the competition rules. It may request information from Member States, persons and undertakings carrying out a merger. Officials of the Commission are even authorized to seize records, obtain oral explanation, and any other necessary powers of entry to execute an investigation. These powers are limited only to the extent that constitutional freedoms of citizens are not jeopardized and that the Member States' authorities are kept fully informed.77 The Commission can also ask the Member State authorities to undertake investigations on behalf of the Commission or to give assistance to a Commission investigation.78 Last, failure to comply with the specific requirements of prior notification 76 W. Elland "The Mergers Control Regulation (EEC) No. 4060/89" [1990] 3 ECLR 111 at 118; CMR CCH, para. 2843.09. ^ Regulation No. 4064/89, supra note 3, Art. 13(2)-(4). 78 ibid., Arts. 12, 13(5), (6). 132 pursuant to Articles 4(1) and 4(2) of the Regulation cem result in a considerable fine,79 and contradictory conduct to the suspension provision would again expose the undertaking in question to a financial sanction.80 Although, these penalties are reviewable by the ECJ81 their immediate effect on undertakings enhances the ability of the Commission to safeguard undistorted competition considerably. However, the competence on Community level to control mergers is not completely unrestricted. The desire of the Member States to retain a certain amount of regulatory power, combined with the attempted clarification of the Commission's Notice on Concentrations, resiult in legal uncertainties which create major limitations to its coherent and effective application throughout the common Market, 79 ibid., Art. 14(1). ibid., Art. 14(2)(b) ibid., Art. 16. 80 81 133-.-V. RESTRICTIONS OF COMMUNITY POWERS AND LEGAL traCERTAINTY . There are some limitations to the Regulation which create legal uncertainties. In particular, the rights granted to Member States to participate in the control of mergers, the protection of security interests of Member States, the legal basis, and the vagueness of its wording have evoked strong criticism which will be discussed below. 1. Referral to Member State authorities, Article 9 Pursuant to Article 9, the right was granted to Member States to review a planned merger where the merger could prejudice competition on national markets. This provision was introduced due to the concern of some Member States to maintain jurisdiction for their national authorities.82 In its third paragraph, Article 9 provides the Commission with the power to refer a proposed merger to the Member States1 authorities if the resulting concentration threatens to create or to strengthen a dominant position. This threat must ..  significantly impede effective competition in a "distinct market" within t M t Merabex 5Uta. As this "distinct market" does not 82 Regulation, supra note 3, Art. 9(9) was requested, in particular from Germany in order to retain residual powers for the Federal Cartel Office. 134 -need to be a substantial part of the common market83 it contradicts the general competition law principle that Community law which only concerns itself with competition issues affecting at least a substantial ptirt of the Common Market,®4 Moreover, Article 9(9) of the Regulation empowers the Member State to appeal to the Court if it does not accept a decision made by the Commission according to Article 9(3) of the Regulation.85 This right of appeal could be used by Member States to retain their full competence to apply national competition law.86 Therefore, this provision undermines substantially the "one-stop control",87. 83. ibid,, Art. 9(2) reads: " — , be it a substantial part of the common market or not". 84 see A.S. Pathak "EEC Concentration Control: The Foreseeable Uncertainties" [1990] 3 ECLR, 119, at 122. 85 If the Commission is of the view that a distinct market and a threat exists, it may decide to deal with the merger itself, or it may refer the case to the competent authorities of the Member State concerned. If the Commission considers that no such distinct market or threat exist it can issue pursuant to Article 9(3) of the Regulation a decision to that effect addressed to the Member State concerned, The latter case permits the appeal. 86 see U. Elland, supra note 76 at 116; contra A, S. Path ,k, supra note 83, at 122, footnote 13, suggesting that Article 9 (9) of the Regulation is not able to inspire any confidence to the Member States. However, considering that some Member States have rather developed merger control laws, such as Great Britain and Germany, it appears very likely that these States will not refrain from using the possibility to appeal the Commission's decision. 87 Regulation, supra note 3, Art. 2(2) provides that no Member State shall apply its national legislation on competition-to any concentration that has Community dimension. In view of this situation, the Commission indicated that it will interpret Article 9 rather narrowly. Only small markets will be covered under this provision, such as the hotel anc retailing sector or isolated markets.88 2. Protection of Legitimate I nterests. Article 21(3) A further restraint consists of the obligation to protect .legitimate interests d£ the Ifcmber .States. These interestB consist of public security, plurality of media and prudential rules. Although the provision does not intend to confer on Member States new riqhts, it entitles the State authorities to prohibit a merger which has been approved by the Commission or make it subject to further conditions provided that these measures do not discriminate arbitrarily or restrict trade between Member States and are compatible with the general principles and other provisions of Community law.89 Thus, Article 21(3) attempts to solve,a conflict of interests between the Treaty objective of a system of undistorted competition and the security concerns of the individual Member States. However, the appraisal as to whether or not a Member State acted in compliance with the Community law in cases where Member 88 Memorandum of the EC Commission of December 22, 1989; CMR C C H P a r a . 2843.15. Regulation No. 4064/89, supra note 3, Art. 21(3). 13S--State authorities have prohibited a merger which was cleared by the Commission will depend on the question of proportionality and legitimate expectations. It is evident that such evaluation leaves ample room for discretionary decisions which will most likely create further uncertainties in this area. 3. No Definitive Determination of Concentrations The legal uncertainty which arose in particular from the vagueness of the definition of concentrations falling under Article 3 of the Regulation is mainly cured by the Commission's Notice regarding the conaenfaBaitiwe and c©-«3j|3>et«iti_**e ope-teitiens. Even though the Notice specifies when an operation comes under the scope of the Regulation, the Commission stateB expxassly that an appraisal is ultimately dependent on the individual case so that the view expressed in the Notice does not provide a definitive answer. Moreover, the application of the Regulation to joint ventures is not fully clarified since the Commission fails to provide a clear dividing line between the concordance of interests and the co-ordination of competitive behaviour. . Consequently,, legal uncertainty remains aa to how the Commission will deal with situations not expressly mentioned in the Notice. Furthermore, the definition of "control" under Article 3(3) of the Regulation as "the possibility of exercising decisive influence" needs clarification as to what "decisive influence"-137 -actually means. Finally, a loophole exists for concentrative joint ventures which lie below the threshold of the Reflation. 4. Changes of Threshold, Article 1(3) The foundation of the Regulation on both Articles 235 and 87 constitutes a uncertain legal basis for the amendment of thresholds as foreseen under Article 1(3) of the Regulation.90 This uncertainty is caused by the divergence of the vote under these two Articles. Article 87 only requires a qualified majority for the amendment of regulations issued pursuant to it, whereas Article 235 requires unanimity. Therefore, it is not clear whether the amendment of the thresholds could be reached by qualified majority vote or whether a unanimous vote would be necessary. It is submitted that a unanimous vote may be required for the amendment of the threshold91 since the Regulation is mainly based on Article 235. However, this could make a future decrease in the threshold highly unlikely taking into account the position of Germany and the United Kingdom on that subject matter. 90 see supra section IV.1. • ., 41 see also F. L. Fine, "EC Merger Control: An Analysis of the New Regulation" [1990] 3 ECIjR. 47 at 50. i3a. -j* VI. CONCLUSION The limitations to the Merger Control Regulation are of n© surprise as they constitute a political compromise between 12 Member States with differently structured economies. Tlle desire of Member States with rigid merger control laws to maintain residual jurisdiction and to protect their public policy interests resulted in the restriction on CoiMnunity jp8wer to approve concentrations. Moreover, the high level o£ thresholds and the uncertainty regarding their amendment in 1993 restrict® ' the effect of the Regulation on the control of concentrations: The criticism of the vagueness of the ReSjftl&tion's definition of concentrations coming under its scope is largely overcome by the recently issued Notice of the Commissi regarding concentrative and co-operative opgS&tions. B ut since the Commission avoids giving a definitive ariSVPr anc^ wakes its guidelines sutojj^ et t® ItSjM. ftfM ftvitwM. , circumstances of the individual case, legal uncertainty remains to the extent that a case is not covered by the situations described in the Notice. It remains to be seen if the Commission through the continuing issuance of further guidelines, through their actual application,'2 and eventually the Court through the 92. - see Siemens Nixdorf Informationssysteme AG, • supra note ie examined by the Commission under the new Regulation. 139-establishment of a consistent case law may finally succeed in completing the legal certainty needed to provide a positive investment climate within the SC. Nevertheless, it has to be acknowledged that the adoption of the Merger Control Regulation proves the'political'will of the governments of the Member States to restrict their national competence and to confer wider powers to the Community in order to achieve the goals set out under the SEA. The prior notification requirement, the provision for Member States to refer to the Commission in case they lack national merger control legislation, the precise time schedule for proceedings, and the Commission's Notice specifying the most frequent situations in which a concentration within the meaning of the Regulation occurs, establish an extension and a clarification of Community competence. The Regulation brings also more equality to the business society which was prior to its enactment subject to largely divergent competition laws and enforcement of 12 Member States. Moreover, the legal nature of a Regulation avoids the difficulties of delayed application of Community law within the — ...».: i - *-.he general experience with respect to the implementation of Directives;. It is submitted that the Regulation constitutes greater lonav rortaint,; r^<jntial investors with respect tc mergers and acquisitions within the Community which provides them with one of the most imperative prerequisites for FDI activities. 140-PART II, CHASTER 4 DIRECT INVESTMENT UNDER THE CANADA-UNITED STATES FREE TRADE AGREEMENT: A STEP TOWARDS LIBERALIZATION ? I. INTRODUCTION The FTA is the most comprehensive bilateral trade agreement ever implemented between the U.S. and Canada and establishes the world's largest free trade area.1 For the first time a bilateral agreement on FDI was concluded between these parties contributing significantly to the crcation of a fr:e trade area. Nonetheless, vital issues are excluded from its scope and remain to be barriers to investment activities of the two parties. The Canada-United States Free Trade Agreement, signed by Prime Minister Brian Mulroney of Canada and President Ronald Reagan of the United States of America on January 2, 1988, entered into force on January 1, 1989.2 Prior to the FTA, various trade agreements had been concluded between the parties. The first was the Elgin-Marcy Treaty in 1854 providing for reciprocal trade concessions with respect to mutual fishing rights and natural products. Based on the proximity to each 1 Free Trade Law Reporter (Riverwoods, II.: CCH, 1989) at para. 1000. " 2 The Canada-U.S. Free Trade Agreement, Dec. and Jan. 2, 1988, H.R. Doc. 216, 100th Cong., 2d. Sess."297 (1988), reprinted in 27 ILM 281 (1988) [hereinafter the "FTA"v other's market, the mobility of capital, the similarity of business and economic structures and in particular, their comparable approach to trade rules in the international arena a strong bilateral relationship developed over time. These factors clearly indicate the economic interdependence of the parties which resulted in the conclusion of the FTA,: Also their position in the international trading system had a considerable effect on the negotiations considering the commonality the FTA shows with the Uruguay Round's agenda. It tackles not only the traditional issues of international trade liberalization such as the elimination of tariffs and the modification of non-tariff barriers, but extends its scope to the new issues, such as trade in services and investment.' The form and structure adopted under the FTA to liberalize FDI will be focused upon in this chapter. The analysis will commence with some background information on the FTA consisting of a discussion of the primary interests of both nations which eventually led the parties to agree upon a free trade area including the regulation of FDI. Subsequently, the FTA provisions governing'direct investment will be analyzed. Their scope and impact on the liberalization of direct investment implemented by the National Treatment Principle, the amendments 3 see also M. G. Smith/Canada's Stake in the Uruguay Round and the GATT System (Ottawa: Institute for Research on Public Policy, 1988) at 30-32. The agenda of the Uruguay Round recognizes that the international marketplace is increasingly one where trade in goods is commingled with trade in services and investment and thus, includes these new issues. required by the FTA to the Investment Canada Ant4 (the "ICA"), and the elimination of certain performance requirements will be discussed. Also, the qualifications and the restrictions to the liberalized treatment of direct investment will be examined. These include the exemptions to the National Treatment Principle of politically sensitive sectors, grandfathering of existing discriminatory national legislation, and the allowance for differential treatment, in particular with respect to the regulation of mergers and acquisitions. It is submitted that the liberalization of FDI as achieved under the FTA remains insufficient to truly establish an area in which FDI can be exercised without restrictions aiid controls established by national laws. II. THE PARTIES' ECONOMIC OBJECTIVES AND POLITICAL INTERESTS A more liberal and secure access to each other's market is one of the essential elements of the FTA.5 The/United States and Canada are each dt^ar,cs i „„„^ -1- w w u u m y pa j. unci, to . i n X^QO about 75 percent of Canada's exports went to the U.S., and the U.S. supplied 70 percent of Canada's imports covering 24 percent 4 S.c. 1985, c. 28 (1st Supp.), ss. l to 45 amended 1988, c„ 65, ss.135 to 137; brought.into force Jan. 1, 1989 as provided by s. 150. . 5 see Kelleher Discussion Paper: "How to secure and enhance Canadian Access to Markets", Part III, pt. 42-43. 143---y of the total U.S. exports.6 However, given the size of asymmetries between the economies of the two countries and the greater involvement of the U.S. in the world economy, differences in the formulation of national policies are a natural consequencfe which x©siil.fcs in different afgpfoaslaae te implement -£jr«<ar trade.' l. The Canadian Perspective Canada's economy developed rather differently over the last century in comparison to the U.S. economy. The U.S., one of the triad economic powers besides Japan and the EEC, is a major worl€ trading nation, whereas Canada is one of the smaller players in the international trading system. This is not only a result of the huge difference in the size of their domestic markets consisting in Canada of a population of 25 million and in the U.S. of 240 million, but mo1-0™""- it is rooted in the structure of their inmtasstoifes based <an « dififerent economic history. The S. Magun et al., Discussion Paper No. 344: "Open Borders-An Assessment of the Canada-U.S, Free Trade Agreement" (Ottawa: Economic Council of Canada, Apfil 1988) pt. 1; The : Canada-United States Free Trade Agreement- -Section II, (Wash., D.C.: Office of the United States Trade Rsgjftsentative, October ia®7/)j.. : • • 7"' R. M. Stern, "Canada/U.S. Trade and Investment Frictions: The U.S. View", in Canada/U.S. Trade and Investment Issues. D. Frctz, R. Stern, J. Whalley eds., (Toronto: Ontario Economic Council, 1985) 32 at 38-40. 144- -it Report of the Royal Commission on the Economic Union of 1985s describes Canada as hinterland and resource-producing economy from which Canada derived all its economic growth and prosperity. A second feature is the industrial development attempted to diversify so that the Canadian people would have other options to earn their living than as "hewers of wood and drawers of water". With the introduction of a National Policy in 1879 by Sir John A. MacDonald the attempt, to promote the growth of a manufacturing society was launched. Through protective tariffs for manufacturers and the provision of east-west transportation links a strong national economy was expected to mature. Simultaneously, Canadian industrial development took a route towards protectionism. Additionally, the government role in the national economy was of high importance as it provided for transportation, finance, and other support services essential for trade activities. This strong involvement of government in the private sector reflects the parties' divergent national policies relating to FDI. Whereas the U.S. historically pursued a rather liberal approach to FDI,9 Canada took a more regulatory position. The latter is most obviously illustrated by the introduction of the r Report of the Royal Commission on the Economic Union and Development Prospects for Canada, 1985 .(Ottawa: Minister of Supply and Services), at 216 (hereinafter the "MacDonald Report"); R. 3". Wonnacott Canada/United States Free Trade: Problams and Opportunities '(Ontario Economic Council Special Series Report Canadian Trade at a Crossroads, 1985) at 5. 9 see £<ar iMriJaar detail H. E. Bale, Jr., "The United States Policy Toward Inward Foreign Direct Investment", 18 Vand.• J. Transnat'l. L. , 199, at 206-16 (1985)'. 1303--National Energy Program (the "NEP")10 and the Foreign Investment Review Act (the "FIRA")11 which constituted the dominant elements of the Canadian investment policies in the 1970s which strongly emphasised Canadian independence from the U.S.. The NEP was introduced under the administration of Prime Minister Pierre Trudeau and sought to, inter alia, decrease significantly the level of foreign ownership in the Canadian oil and gas industries. The FIRA established a general screening procedure ifi order to ensure that foreign investments brought a "significant benefit" to Canada. Foreign investors were requested to legally bind themselves to commitments regarding local employment, purchases of locally produced goods, exports, research and development in Canada, Canadian management, etc..'' These different perspectives on national policies and economic interests had a definite impact on today's relationship among the two countries and the formation of priorities either 10 Ministry of Enercrv. Mines and Resources Canada, The National Etiarav Proaram 39-49 (1980) . 11 S.C. 1973, c. 46. 12 see for further detail: G.H. Dewhirst, "The. Canadian Federal Government's Policy Towards Foreign Direct Investment", in Regulation of Foreiqn Direct Investment in Canada d the United States, E.H. Fry & L.H. Radebaugh, eds. (Pirovo, tah: Brigham Young University David M. Keaoedy, 1983)„ 23 at 25-23; J. Turner, "Canadian Regulation of Foreign Direct Investment", 23 Harv. Int'l. L.J. 333, 338-42 (1983); D.S. MacDonald, "Canadian Industrial Policy Objectives and Article ill of the GATT: National Ambitions and International Obligations", 6 Can. Bus.L.J. 385 at 385-391 (1982); J.J. Schott "The Free Trade Agreement: A U.S. Assessment" in The Canada-United States Free Trade Agreement: The Global Impact. J.J. Schott & M.G. Smith eds. (Wash., D.C.: Institute for International Economics, 1988) 1 at • 22-23. • 146-Canada or the U.S. pursued with the FTA. 1.1. Secure Access to the U.S. Market The Canadian government put highest priority on the free and ensured access to the U.S. market. The reason is obvious looking at the statistics. Canada is more heavily dependent on exports to the U.S. than the U.S. on exports to Canada which provides the U.S with an economic strength widely feared by Canadians.13 Canadian exports to the U.S. market made up over 30 percent of Canada's gross domestic product (GDP) in 1987 while the U.S. exports to Canada only represented 1.3 percent of its GDP in that year." The immense dependence of Canada on external trade is most accurately recognized in the following statement: ...our nation's economy is still deeply influenced by external economic relations, as reflected in the fact that foreign trade accounts for over 30 percent of Canada's gross notional product. In this dimension, Canada ranks among the most trade dependent of the nations belonging to the Organisation of Economic Cooperation and Development ("OECD") .15 As the U.S. market is the largest export market for Canada, Canada's primary interest was to achieve more secure and freer MacDonald Report, supra note 8, at 2 1 5 - 1 7 . 14 " IMF International Financial statistics (Feb-. 1988) ; Directory of Trade Statistics Yearbook (1980). 15 MacDonald Report, supra note 8 , a t 216. 147 3 -access to the American market.16 This interest was also fuelled by the idea that Canadian companies could take advantage of scale economies of larger plants and larger production lines leading -to higher productivity and lower unit costs. This, in turn, could result in greater competitiveness of Canadian industry and a higher standard of living. Also, an advantage was seen in increased competition leading to a reallocation of resources froth declining to growing industries, to rationalization, product specialization and modernization. These developments were expected to increase the confidence of investors and to augment investment activities in Canada, particularly in primary and resource-based industries, but also in plant and equipment Hence, an increase in capital formatiori o f 5 escent withiri the time period from 1989 to 1998 is , .spected if in addition to the removal of trade barriers, improvements of industry-specilic ' productivity in 20 manufacturing industries are attained.18 Canada also definitely had an interest in creating long-term 16 MacDonald Report, 5 , m " n n e 8, at 302, 3.82-83; Department of Finance, "Can Canada Compete'' in Tr^p Papers (hereinafter "Trade Papers") D. Cameron, ed.,(Toronto: James Lorimer S Co., 1988), at 107. 17 Department of Regional Industrial Expansion, The Canada-United States Free Trade Agreement and Industry: An ••• Assessment (Ottawa: Minister of Supply and Services, 1988), at 25; S. Magun et al., supra rtote 6, at 77-79. It is interesting to note that Canada also expected to attract third country . • investors to set up production facilities' in Canada in order to supply the whole North American market., S. Magun et al., supra note 6, at 54, Table 10. i 4 a . stability,1' realizing the recent changes in the U.S. external trade policies of the more and more protectionist position of thg Congress.20 In addition, this concern gained some importance with a view to the relatively higher percentage of Canadian direct investment activities in the U.S. than U.S. direct investment in Canada over the last 10 to 15 years." • On the other hand, the Canadian government was, by and large, satisfied with the status quo regarding the regulation of cross-border direct investment since tha U.S. pursued in the past a liberal investment policy whereas Canada followed a screening system of direct investments.22 Thus., the Canadian government 19 Department of External Affairs, Canadian Trade Negotiations (1985), reprinted Trade Papers. supra note 12, at 21-22. 20 see P. Riddell, "U.S. split over rules on foreign takeovers", FT June 22, 1990, at 22; C.M. Aho, "A U.S. Perspective", in Free Trade the Real Story (hereinafter "Real Story") J. Crispo, ed., (Toronto: Gage Educational Publishing Company, 1988) 180 at 181; C.M. Aho & J.D. Aronson Trade Talks: America Better Listen (New York: Public Department, Council for Foreign Relations, 1985) at 62-66; MacDonald Report, supra note 8, at 177; see for further detail, infra Section IV.1.1., 2.1.-2.5. 21 D.F. Burgess, "A Perspective on Foreign Direct Investment" in Perspectives on a U.S.-Canadian Free Trade Agreement (hereinafter "Perspectives") R.M. Stern, P.H. Trezise, J. Whalley, eds. (Ottawa: Institute for Research on Public Policy, 1987) 191 at 209-210; A.M. Rugman, "Multinationals and the Free Trade Agxaemsant",, in Trade-offs on Free Trade: The Canads.-U.S. Free Trade Agreement [hereinafter "Trade-Offs"], M. Gold & D. Leyton-Brown eds. (Toronto: Carswell, 1988) Table 2 at 9: the stock of. Canadian direct investment in the U.S. grew at over 20 percent a year in the time period from 1975-1985 which was three times the #LroMt±i nf.JJ.S. direct investment in Canada', 22' see S. Aronson, "A Proposed Legal Framework for a Comprehensive Free Trade and Investment Agreement Between Canada and the United States" 8 Fordham Int'l L. J., 161, at 180 (1984-^ 85) . / "n'r7v rfli ''lyTTnlli 'n > 'U U. utu if U"„» ix tsssiis 14a--perceived the inclusion of foreign direct investment under the FTA primarily as a means to seek American concessions with respect to the access to the U.S. market than an issue,23 This answers to a large extent the question why the FTA still contains multiple restrictions on FDI.24 Moreover, the quest for "cultural" and "political" sovereignty proved to be a curb to a broad liberalization of direct investment. 1.2. "Sovereignty11 and "national Identity" The issues of "sovereignty" and "national identity" were the major arguments brought forward by the opponents to the FTA, and specifically, against the inclusion of foreign direct investment. The opposing interest groups included (besides the parliamentary opposition of New Democrats and Liberals) economic nationalists, organized labour, ana representatives of the cultural community ,25 The argumentation of the opposition was primarily R.J. Wonnacott, supra note 8, at 15-16; J. Raby "The Investment Provisions of the Canada-United States Free Trade Agreement: A Canadian Perspective", 84 Am. J, of Int'l, L. 394 at 430 (1990). _24 see discussion, infra Section IV. ... 25 . A motion blaming the Government was represented in the House of Commons by tire Opposition: 1986-87 Can. Pari. Deb., H.C., 33rd Pari,, 2d Session 6344-71, M. Watkins, "Investment", The Free Trade Deal, D. Cameron ed. (Toronto: James Lorimer & Co., 1988) 83-90; S. Crean, "Cultural Sovereignty; Negotiating the "Non-Negotiable" 1986) at 175-181; Canadian Labour Congress, at 135-42, J. Blouin, "The Secret File on Job Loss: Quebec", all reprinted in Txads Paaers, supra note 12; G. Caplan, "The Effect of the Proposed Free Trade Agreement on Sovereignty -Issues", Assessing the Canada-U.S. Free Trade Agreement, M,G, Smith and F. Stone,, eds. .(Ha 1 i fax; Institute fox Research, 1988); contra: R. -G. Lipsey, "Sovereignty: Culturally, Economically, and Socially", 150.. based on the high level of foreign ownership in the Canadian economy. This situation was perceived as a threat to the national identity of the Canadian people and as a constraint to Canada's political sovereignty.26 Although the opposition did not impede the conclusion of the FTA, its impact on the regulation of direct investment activities cannot be denied considering the broad range of means to restrict FDI for reasons of cultural heritage and national identity maintained in the agreement ,27 2. The United States Perspective 2.1- Liberalization of FDI For its part, the United States' objective was, besides the attempt to improve the access to the Canadian market in the service sector, in particular directed toward the improvement of Real Story, supra note 20, at 148-60. 26 see Burns, "Trade Pact Sends Canada into Election Fever", N.Y Times, July 26, 1988, at A8, col. 5: both Liberal Party leader John Turner and New Democratic Party leader Edward Broadbent had vowed to abandon the pact if they were elected, charging the Canadian negotiators jeopardized areas crucial to national sovereignty such as control over investment policy; Canadian Labour Congress, 135, and J. Blouin, "The Secret File on Job Loss: Quebec", assuming that there are about 500,000 jobs are viewed to be at risk, all reprinted in Trade Papers. supra note 12, However, the reasoning of the apposing interest groups varied and were at times contradictory. For example, the economic nationalists see the greater access to the Canadian economy as.a . sellout to U.S. business, whereas labour unions fear job losses though divestment of U.S. multinationals from Canada. 27 see for further detail, infra Section IV. 151 r the investment climate. The regulation of investment in Canada was a contentious issue between the two countries straining their economic relationship.28 The United States sought by entering into the FTA talks to preclude a return to interventionist investment policies of the Trudeau regime,2' and to remove the threat of a return to such policies by Canada for the future,?0 Of great importance was also that in 1986, the stock of direct investment of U.S. investors in Canada amounted to $68 billion and Canadian investment in the U.S. ranked in the same year with $40 billion.31 These figures proved that the outward direct investment by U.S. multinational enterprises in Canada increased on a lower percentage than Canadian direct investment into the 28 R. M. Stern, supra note 7, at 32, 42-55; B.E. Quirin, "Issues in Canada/U,S, Energy Trade and Investment: A U.S. Perspective", in supra note 7, 254, at 263-64. 29 see discussion, supra Section II. 1, The former National Energy Policy forced U.S. divestment of holdings in Canadian energy companies, and screening by the Foreign Investment Review Agency resulted in a deterrence for U. S. firms to invest or requested costly performance requirements as an implicit condition for approval. 30 H. Bale, Jr., Office of the U.S. Trade Representative, "Investment Frictions and Opportunities in Bilateral Trade Relations", in supra note 7, 165; J.J. Schott, United States-Canada Free Trade: An Evaluation of the Agreement (Washington, D.C.: Institute for International Economics, April 1988) at 24-25. 31 Source: A. M. Rugm'an, Outward Bound: Canadian Direct InvssjaraaKifc in the U.S. ^IGajsonta: C.D. Howe Institute, 1987) Table 2. These figures differ from the U.S. statistics due to different accounting system. Thus, the Office of the USTR in its release of October 4, 1987, supra note, lists $46 billion and $17 billion direct investment respectively. -= c" --ymmSmii sMmsSSSSM -T 152 --U.S..32 The liberalization of the Canadian restrictions, including performance requirements, and the freezing of the existing controls on FDI was therefore of high priority to the U.S. government.33 2,2'.- The FTA as a "Fallback" in the International Trading System Another component of the U.S.1 position on the conclusion of the FTA was the idea to constitute an increased negotiation power for the U.S. in the MTN in order to press for improvements with respect to the "new issues" such as investment, services and intellectual property rights by establishing a model for their regulation with a like-minded country.34 This perception was due to the fact that the U.S. was traditionally the dominating actor in the MTN but lost its preeminence in the GATT with the constitution of the EEC which was reflected in the Kennedy Round (1963-67) and the increasing trading power,of Japan emerging in the Tokyo Round (1973-1979). Moreover, when the U. S. focused in 32 33 see supra note 21. see Statement of Clayton Yeutter in "Negotiation of the United States-Canada Free Trade Agreement: Hearing before the. Senate "Committee on Finance", 99th Congress, 2d Sess. at 39 (1986); Letter from President Reagan to Senator Packwood, reprinted in Trade Papers, supra note 12, at 44; Statement of Peter Murphy, U.S. chief negotiator, to U.S. Congressmen, quoted by Lloyd Axworthy, 1986-87 Can. Pari. Deb., H.C., 33rd.Pari., 2d Sess. 6240.; J. D. Richard, R.D. Dearden, The Canada-U.S.Free Trade Agreement: Commentary and Related Documents (Don Mills, Ont.: CCH Canadian Ltd., 1987), Para. 1000. 34 'Clayton Yeutter, " A Vote of Confidence" in Building a Canadian-American Free Trade Area. E . R . Fried. F. Stone, P.H. Trezise eds. (Washington, D.C.: The Brookings Institution, 1987) at 197, 199; J.J. Schott, supra note 12, at 4. *?t:w"-T!™» jep^rxttss mMKm-jSm. • i 153-the 1980's on the new MTN, in particular on the extension of the GATT's coverage to include the new issues mentioned above, its initiative failed in the GATT Ministerial in 1982. It could be suggested that the U.S. commenced a policy in which it pursued bilateral agreements in order to build blocks for future GATT accords35 and also to create a f a 11 *w»<--k in case the MTN 3. Why a Free Trade Area ? The question arises why the parties chose to establish a free trade area rather than a common market or a customs union. Article XXIV, Paragraph 8(b) of the GATT defines a free trade area as an association of nations with duty free imports from members. It must establish an area in which tariffs, non tariff-barriers and other trade distortions are eliminated on most trade. In addition, duties and other regulation of commerce maintained in each of the member states cannot be higher or more restrictive after the formation of the free trade area. This legal £rannewark of a'icse trade area offered to the parties a 35 Art. 1610 of '|-v" FTA clearly Reflects such intent [all Articles cited shall be presumed to be from the FTA unless . otherwise indicated]. Also the announcement on June 11, 1990 of U.S. President Bush and the Mexican President Salinas to - • negotiate a comprehensive U, S', -Mexican Free Trade Agreement shows sane degree of caasisteac^.with the trend to conclude bilateral / agreements. See, 9 The Free Trade Observer (June, 1,990) at 109. 36 C.M. Aho in Real Story, supra note 20, 180 at 182. regime that would accommodate the above mentioned political and economic aims pursued by the tvo countries. The form of a common market for freer trade was rejected for two major reasons: first, the requirements of a uniform set of trade and common commercial policies to be applied to third countries and second, the free movement of labour and capital were incompatible with the position of the Canadian and the U.S. governments. Canadian and U.S. autonomy over foreign political and economic policies, as much as the control over immigration, were conceived as the most important national policies.37 The creation of a customs union was also rejected. Because of Canada's relative size, Canada feared that it would be unable to influence equally decisions on a common set of tariffs and common commercial policies, and that these decisions would be taken, by and large, in Washington.38 Consequently, the free trade area was considered to be the form of across-the-board arrangement that would provide an appropriate regime for freer trade between the U.S. and Canada. Both parties would remain independent as '. .„ regards the setting of tariffs applying to products of third nations and the free movement of labour and capital did not heed to be included.39 Also, a free trade area was viewed to be more open-ended as it would not require negotiation of an external 37 Macdonald Report,'supra note 8, at 306-307; R.J. Wonnacottj see supra note 8, at 12-13. 38 ibid. 39 Free Trade Law Reporter, supra' note 1, para. 1 0 0 0 . 155 tariff making it easier for new members to join.40 Within this framework, the two countries included the regulation of direct investment realising that the international marketplace is increasingly one where trade in goods is commingled with trade in services and investments. III. SCOPE OP LIBERALIZATION OP POREIGN DIRECT INVESTMENT In Chapter 16 of the FTA the most ^tensive outline of the objectives for bilateral direct investment to date has been agreed upon by the two partis. As set out in the Agreement's Preamble, it purports to "ensure a predictable commercial environment for business planning and investment". Thus, Chapter 16 of the FTA aims at the liberalization of FDI namely through: - the establishment of the National Treatment Principle, - the amendment of the screening mechanism continued in the ICA, and - the prohibition of certain performance requirements. 1. The Qualified National Treatment Principle, Article 1602 The fundamental principle around which the provisions on direct investment of the FTA revolve is the principle of national treatment; It requires that each country accord the investors of 40 ibid. 156 --the other treatment no less favourable than accorded its own investors with respect to me=sures affecting the establishment, the acquisition, the conduct and operation, and the sale of business firms. It has to be emphasised that national treatment does net mean that U.S. and Canadian regulations need to be harmonized. National treatment merely embodies the equivalent application of Canadian and U.S. legislation to the foreign (i.e. American or Canadian) and domestic businesses operating in their territory. Thus, national legislation may differ from one country to the other as long as they do not discriminate for reasons of nationality. For example, Canada can apply different competition laws or establish its own industrial policy notwithstanding a different policy pursued : n the U.S...41 Such policies and laws only need to be applied equally to U.S. and Canadian investors and their operations. The same principle applies to the provinces and states of the parties.42 Hence, no province/state in Canada/the U.S. could apply any rule to an American/Canadian company with terms less favourable than those which it applies to one of its own provincial/state companies. This provision creates some ambiguity since it may..provoke a discriminatory situation for the out of province companies/out of state companies compared to U.S. companies/Canadian companies •since a provincial/state government could apply discriminatory 41 .. A. M. Rugman, "The Free Trade Agreement and The Global Economy" 53 Bus. Quart.., 13 at 17 (1988). See discussion, infra ak^ -'.Ljica* jl v. 42 Art. 1602:4. •• 7 , 157 3 -measures against those companies, but not against investors from the U.S./Canada.43 ">1 .""1. teei¥sr5±aieroi«:s Beneficiaries of chapter 16 are "investors of a party", An investor is a party, its agencies, its province or state and their agencies, its nationals and certain entities that make or have made an investment. Also, corporations, partnerships, trusts or joint ventures may establish these entities being either: (i) ultimately controlled directly or indirectly through the ownership of voting interests by one of the above mentioned investors or by an entity as described in paragraph (ii) below or a combination of those; or (ii) n°t ultimately controlled directly or indirectly through the ownership of voting interests where a majority' of the voting interests of such entity are owned by such M. Watkins, supra note 24, 83 at 87; see J. Raby, supra note 23, at 410. The latter proposes that the application of the National Treatment Principle in Provinces and states under the FTA should ba interpreted in the same way as the provision made under the Model Treaty between the United States of America and Concerning the Reciprocal Encouragement and Protection of Investment" [reprinted in 11 Stan. J. of XntH- Law 442 - 457 (1985) (hereinafter the "BIT") ] which accords to all companies the same treatment,, Under Article 11:10 of the BIT a state in the U,S, is required to grant the same treatment to all sat §t sfet&e gsifssi^ at?® tte other party or a sister-state. The BIT provision avoids the ambiguity which is inherent in Article 1602:4 of the FTA and provides consequently more legal certainty. subject to the continuing control by such investor. 159- -A "business enterprise" coming under the scope of Article 1611 must have a place of business, an individual or individuals employed or self-employed in connection with the business, and assets used in parrying on the business. It can be any juridical entity involving a financial commitment for the purpose of commercial gain.45 Such business enterprise fulfils the requirement of a newly established enterprise if it is started up by the investor subsequent to the entry into force of the Agreement,46 and meets the condition of being acquired if control of the entity is acquired through the acquisition of the ownership of voting interests or all or substantially all assets.47 Consequently, the term "investment" comprises business enterprises as well as the controlling interests in them. 1.3. Definition of "Measures" The National Treatment Principle applies also to measures affecting investments. The term "measure", defined in Article 201 as covering "any law., regulation, procedure, requirement and practice", is extended to include "any published policy". 45 The term "business" is not defined in the FTA, but hc.s to be read in conjunction with, the term "enterprise" as defined in Art.. 201'. '. 46 Arts. 201, 1611. 47 Art. 1611. 157--measures against those companies, but not against investors from the U. S. /Canada.43 1.1. Benafild-a-r.i-e.s Beneficiaries of chapter 16 are '"investors of a party". An investor is a party, its agencies, its province or state and their agencies, its nationals and certain entities that make or have made an investment. Also, corporations, partnerships, trusts or joint ventures may establish these entities being either: (i) ultimately controlled directly or indirectly through the ownership of voting interests by one of the above mentioned investors or by an entity as described in paragraph (ii) below or a combination of those; or (ii) not ultimately controlled directly or indirectly through the ownership of voting interests where a majority of the voting interests of such entity are owned by such M. Watkins, supra note 24, 83 at 87; see J. Raby, supra note 23, at 410, The latter proposes that the application of the National Treatment Principle in Provinces and States under the FTA should be interpreted' in the same way as the provision made under the Model Treaty between the United States of America and Concerning the Reciprocal Encouragement and Protection of Investment" [reprinted in 11 Stan. J. of Int'l. Law 442 - 457 (1985) (hereinafter the "BIT")] which accords to all companies the same treatment. Under Article II;10 of the BIT a state in the U.S, is required to grant the same treatment to all out of..state companies, whether .these companies ..are .from the • other party or a sister-state. The BIT provision.avoids the ambiguity which is inherent in Article 1602:4 of the FTA and provides consequently more legal certainty. investors, by entities incorporated or duly constituted in the territory of such Party and, if they carry on business, carry on business enterprise in such territory, or by any combination of the described. However, any entity that is controlled by third country nationals or where the majority of its voting interests is owned by third country nationals is excluded from this application.44 Thus, the determination of "a investor of a party" is governed by the theory of control, which means that the control of an entity is the decisive element for the application of Chapter 16 and that such control is determined by the ownership of voting interests. 1.2. Definition of "Investment" In order to meet the requirements of Chapter 16 a Party has to make an investment. The term "investment" is defined in Article 1611 as: - the establishment of a new business enterprise, . - the acquisition of a business enterprise, - the carrying on of these so established or acquired, and controlled enterprises by the investor who has made such investment, and - the share or other investment interest in such enterprise 44 see Art. 1611. ' 159 ly subject to the continuing control by such investor. A "business enterprise" coming under the scope of Article 1611 must have a place of business, an individual or individuals employed or self-employed in connection with the business, and assets used in carrying on the business. It can be any juridical entity involving a financial commitment for the purpose of commercial gain.45 Such business enterprise fulfils the requirement of a newly established enterprise if it is started up by the investor subsequent to the entry into force of the Agreement,46 and meets the condition of being acquired if control of the entity is acauired through the acquisition of the ownership of voting interests or all or substantially all assets.47 Consequently, the term "investment" comprises business enterprises as well as the controlling interests in them. 1.3. Definition of "Measures" The National Treatment Principle applies also to measures affecting investments. The term "measure", defined in-Article 201 as covering "any law, regulation, procedure, requirement and practice",, is extended to include "any publi shed policy". 45 The term "business" is not defined in the FTA, but has to be read in conjunction with the term "enterprise" as defined in Art. 501. 46 Arts. 201, 1611. 47 Art. 1611. 160 3 --j 2. Jjnendment of the Investment Canada Act: Liberalized Screening system, Article 1607:3 The ICA had to be amended in order to comply with the FTA provisions on direct investment. It will be commenced with one of the most substantial amendment established by the increase of thresholds of direct and indirect acquisitions. 2.-J- Thresholds of Direct, and Indirect Acquisitions Canada maintained the right to review direct acquisitions of canadian-cwnori fMvms by U.S. investors. But the review threshold in force under the "ore the entry into force of the 'FTA of CDN $5 million increased in 1989 to CDN $25 million, in 1990 to CDN $50 million, in 1991 to CDN $100 million and in 1992 CDN $150 million.48 Siihs<=nn<=ni- i-r. iQQ5r the threshold shall be determined each year by use of a specific formula set out under Paragraph 2(c) (i) of Annex 1607.3. The screening of indirect acquisition, i.e. where the acquisition of a Canadian business involves the transfer of nrmt-vni ^no f i ™ ""der foreign ownership or control firm to another, will be phased out completely by January 1, 1992. These indirect acquisitions were formerly reviewable if the value of the gross assets of the Canadian business was at least CDN $ 50 million if that value constituted more than 50 percent of the value of the gross assets acquired in the transaction. However, 48 FTA, supra note 2, Annex 1607.3:2(a)(ii). 161-the case-by-case screening mechanism of ICA remains in place for direct acquisitions of Canadian enterprises. 2-2. No Minimum Equity and No Divestiture The ICA was further modified in order to comply with the Articles 1602:2 and 1602:3 and 1603 of the FTA. These provisions prohibit minimum equity levels, divestiture for reasons of nationality and the imposition of performance requirements.49 2.3. "Foreign" Investment The ICA provisions are amended to the effect that every reference made in its subsections 26 and 27 to "Canadian" shall be read and construed as a reference to "American". The same applies to "non-Canadian", "Canadian-controlled", and "Canada" to be read as "non-American", "American-controlled", and "United States" respectively.50 Any investment which falls outside this scope establishes a foreign investment. Thus, in compliance with the National Treatment Principle, the ICA applies the same standards to American investors as it uses for Canadians. 3. No Performance Requirements, Article 1603 As mentioned earlier, performance requirements were used as an instrument to regulate foreign direct investment under the 49 ibid., para. 3. 50 ICA, supra note 4, s. 14:1. ' former investment policy of Canada as implemented by the NEP and FIRA.51 Althouyh most investment proposals were accepted by the Canadian authorities, American observers suggest that many proposals were not made, and many others were discouraged from being made.52 Therefore, it was important to the U.S. that Canada conceded to refrain from the imposition of certain performance requirements under the FTA.53 However, the significance of this Canadian concession appears rather questionable. First, some of these performance requirements were already subject to a ruling of the GATT Panel which was rendered in favour of the U.S.54 and taken into account in the repeal of FIRA and its replacement by the ICA.55 Second, Article 1603 of the FTA extends this prohibition merely to export, local content, local sourcing, and import substitution requirements.56 Since Article 1603 does not cover all forms of performance requirements, ample room is left to impede FDI by the 51 52 53 54 see discussion, supra section II.1. see for example H.R. Bale, Jr., supra note 9, at 113. Art. 1603:1. The GATT ruling established that certain trade-related performance requirements, i.e. the mandatory local sourcing of goods and services, were inconsistent with the National Treatment Principle under Article 111(4) of the GATT. B.I.S.D. (1984), GATT (30th Supp.) at 140; and GATT Report, No. CL/5504 (Feb. 7, 1984), reprinted in Law and' Practice Under The GATTr K. Simmonds, B. Hill eds. (New York: Oceana, 1989) at.pt. II at 47-48. 55 A.M. Rugman in Trade-offs, supra note 21, at 6. 56 Art. 1603:1 (a)-(d) . 163 -usage of non-covered performance requirements.57 4. Access to Information Article 1604 ensures that only routine information for statistical and informational purposes can be requested from an investor and protects the investor's confidential business information from disclosure that would result in a competitive disadvantage. It has to be pointed out, though, that this provision allows for certain reporting requirements which could have a chilling impact on FDI.58 5. Capital Transfers The FTA also creates a system of free capital transfers across the borders.59 Article 1606.1 of the FTA covers profits, royalties and other payments derived from an investment, grants or fees, and includes proceeds from the sale of the investment. These transfers are made subject to the equitable non-discriminatory and good faith application of laws and .regulations on matters as bankruptcy, securities, taxes, satisfaction of judgments, reporting of currency transfers, and criminal 57 58 59 see discussion, infra section IV.3.3. see, for example discussion, infra i.ection IV.2.5. Art. '1606. • . • • 164--offenses.60 Article 1606 does not impose any provision for a specified exchange rate, such as the prevailing market rate on the date of transfer.61 IV. RESTRICTIONS TO DIRECT INVESTMENT tJMDER THE FTA Notwithstanding the just described liberalizations of FDI between the Parties, direct investment activities continue to be subject to many restrictions. These restrictions are rooted in the limited coverage of the FTA provisions on FDI. This is most obviously reflected in the qualification to the National Treatment Principle as set out under Article 1601 with the wording "Except as otherwise provided for in this chapter...". Accordingly, several exceptions to the National Treatment Principle set out under Chapter 16 are made: the outri'.ght exclusion of certain sectors of the economy, the grandfathering of existing legislation, the restricted scope of the XCA amendments, the allowance for differential treatment, and lastly, the omission of competition rules affecting FDI especially with respect to mergers and acquisitions. 1. Exclusion of specific Sectors of the Economy Chapter 16 excludes explicitly its application to certain 60 Art. 1606:2. ' ••.:••• 61 see, for example Art. V:2 of the BIT, supra note 43. 165-economic sectors.62 Thus, Canada and the U.S. retain the right to review all direct and indirect acquisitions by foreign investors and pursue differential treatment in these sectors.. 1.1. Transportation Industry With respect to the transportation sector, it is important to note that the exclusion of transportation industries was strongly demanded by the U.S.. This was because the U.S. wished to maintain the applicability of the Jones Act63 prohibiting the transportation of merchandise by water in any vessel other than one built and documented under the laws of the U.S. and owned by U.S. citizens. In order to determine whether a licensed entity qualifies for the U.S. citizenship the Shipping Act, 191664 applies which requires that the entity must be domestically organized, the U.S. citizenship of chief executive officer and chairman of the board and that citizens must hold at least 75 percent of the ownership. Further discriminatory provisions are found in the Marine Merchants Act, 193665 providing for employment of U.S. citizens and differential treatment as regards to subsidies. Art. 1601:2(a),(b),(c). 46 U.S.C. s. 27. . 46 U.S.C. s. 802. 46 U.S.C. s. 1101 et seq.. ' -<. ' • - . — v*' . < -"K5"- • ' >* . •SS'^SV; 't - ' • - ,5 s, • - . ® " ' --- , -v' J,, Jiii - -J.^. C* '<'• - "... ' . •'ft ' v - V > '" '"•""f"" '•• • . , . . . . . . . .. . . .. • . . . . . . . . . . . . . . . , - . ... . . . . . , .... .... , .••' 166--- - •:--J- " 1.2. Cultural Industries Cultural industries are also exempted from the application of Chapter 16 which was primarily a request by the Canadian government.66 "Cultural industries" are defined expressly by the FTA as enterprises engaged in: - the production, distribution, or sale of books, newspapers, periodicals or music in print or machine readable form; - the production, distribution, sale or exhibition of films, video recordings, audio recordings, or records; and - radio and television broadcasting, including cable TV, satellite programming and broadcast networks.67 These industries remain subject to the policies adopted by either party. For example, it remains permissable for the Canadian government to introduce and maintain the current policy for the bookpublishing and distribution enterprises. This policy demands that new foreign investments have to be established in the form of joint ventures with Canadian control or when foreign investments establish an acquisition of control, it requires that the investment has to be accompanied by an undertaking to divest Art. 2005. Art. 2012. 167 s control to Canadians within two years.68 Chapter 16 only applies in cases of a forced divestiture of a cultural industry business that is indirectly owned by a U.S. investor. Under these circumstances the Canadian government is required to offer to purchase the busi'nes:-; at a fair market value, as determined by an independent, impartial assessment.69 It has to be pointed out that the above mentioned exemptions operate both ways, notwithstanding which party had a greater interest to exclude a specific sector. 1.3. Conduct and Operation of Service Businesses In addition, the application of the National Treatment principle is excluded for any measure related to the conduct and operation of service businesses located in the other party's territory.70 This exemption applies to services which are not covered by Chapter 14 of the FTA. Consequently, American investors in sectors of basic telecommunication, transportation, medical, dental, childcare, education and other social services 71 may be subject to. differential treatment as compared to their Canadian counterparts 68 D.P. Steger, A Concise Guide to the Canada-United States Free Trade Agreement (Toronto: Carswell, 1988), 46.-69 .. Art. 1607:4. 70 Arts. 1601:3, 1602:1 (c) . 71 see FTA, supra note 2, Chapter 14. with respect to the conduct and operation of the investment, and vice versa. 1.4. Oil. Gas, and Uranium Industries The oil, gas and uranium-mining industries are excluded from all tha amandmQnts of tha ICA, except for the regulation on divestiture.72 Thus, the existing ICA thresholds and published policies, the minimum level of equity, and the imposition of performance requirements will continue to apply to foreign investment in these sectors. The only limitation is that the policies cannot be more restrictive than as of October 4, 1987. Therefore, the ICA policy limiting foreign ownership of tha uranium industry to 49 percent, and the policy in the oil and gas industry requiring undertakings on the part of a foreign enterprise acquiring a Canadian business to secure significant Canadian equity participation in the Canadian firm or in selected Canadian resource properties, and to spend substantial sums on exploration and development in Canada,73 remain applicable. 1.5. -Canadian Crown Corporations A specific provision is also made for the regulation of crown corporations. The direct and indirect acquisitions of federal and provincial crown corporations by foreign investors including American investors' are exempted from the National 72 ibid., Annex 1607.3:4. 73 D.P. steger, supra note 68, at 46. 1 6 9 -Treatment Principle.74 Pursuant to Article 1S02.5, Canada is allowed to introduce new measures with respect to the acquisition and sale of the direct or indirect ownership of an GXJLstxncj crown corporation. Those measures can even be inconsistent with the National Treatment Principle and the prohibition against minimum equity requirements. However, once the measure is introduced, it cannot be amended in order to render it more inconsistent with the National Treatment principle, and cannot increase the ownership restrictions contained in that measure.75 With respect to future privatization of crown corporations, Article 1602.5 provides the Canadian government with the option to control privatization through the limitation of foreign ownership. In addition, the newly established or acquired crown corporations, i.e. those coming into existence after the entry into force of the FTA, are exempted from the National Treatment Principle and the minimum equity prohibition when initially privatized. However, it is important to bear in mind that to the acquisitions made subsequent to the completed initial acquisition the FTA provisions will apply to their full extent.76 ..This .will eventually eliminate government influence over particular sectors 76 Arts. 1602:5 to 1602:7. Art. 1602:6. Art. 1602:7. 170--j of the economy.77 2. Grandfathering of Existing Legislation The qualification to the National Treatment Principle of Chapter 16 can also be found in Article 1607:1 which states that the liberalization of foreign direct investment as established by the provisions of Articles 1602 to 1606 shall not apply to a non-conforming provision of any existing measure, to the continuation or prompt renewal of a non-conforming provision of any existing measure, or to an amendment to a non-conforming provision of any existing measure to the extent that the amendment does not decrease its conformity with any of the provisions mentioned above. Consequently, all existing laws, regulations, published policies and practices which are not in conformity with any of the obligations set out under Article 1602 to 1606 will be grandfathered. However, these provisions cannot be made more discriminatory after the entry into force of the FTA.78 Article 1607 provides for a standstill which freezes the existing situation in the field of discriminatory regulation of direct investment as practised by the two parties and ensures that Chapter 16 of the FTA applies only prospectively. This grandfather clause is of particular interest with 77 - For example, oil and steel companies, telecommunications carriers, railroads, medical supplies, broadcasting, or hydroelectric utilities. 78 Art. 1607:1 (c) . 1 7 1 -respect to certain U.S. restrictions relating to foreign ownership. As opposed to Canada, the U.S.' stated policy is to grant national treatment to FDI. Nonetheless, it is beyond doubt that it has many restrictions and disclosure requirements that discriminate foreign investors or limit or even inhibit FDI in specific sectors of the economy. Thus, a diffuse system of laws and regulations restricting FDI is existent in the U.S. of which the most renowned will be discussed in the following. 2.1. Aviation The Federal Aviation Act of 1958, as amended79 provides for substantial regulation of direct80 or indirect81 participation of foreign persons and entities .in U.S. air transportation. Direct participation is subject to prior government approval depending largely whether the operation is in the public interest whether a reciprocal privilege is granted to U.S. aircraft by the country of registration of the applicant. For the indirect participation the issuance of a specific certificate is required 79 49 U.S.C. s. 1301 et seq.. Amendments to the Federal Aviation Act were made by the Airline Deregulation Act of 1978, Pub. L. 95-504, 92 Stat. 1705, the International Air Transportation Competition Act of 1979, Pub. L. 96-192, 94 Stat. 35, Civil Aeronautics Board Sunset Act of 1984, Pub. L. 98.-443, 98 Stat. 1703. 80 Operation of foreign registered and owned aircraft on U.S. international routes. . 81 Formation or acquisition of a U.S. company possessing authority to engage in U.S. domestic international air transportation, 172-which may only be issued to U.S. citizens.82 To qualify as a U.S. citizen, a carrier must be incorporated in the U.S., at least 75 percent of its voting securities must be owned or controlled by U.S. citizens, and 2/3 of the corporation's directors must be U.S. citizens.83 2.2. Communication The wireless and wire communication is restricted to foreign ownership by the Communication Act of 1934.84 The Act subjects the use or operation of a radio station to a specific license55 which cannot be granted to a foreign government, its representative, or any foreign individual or corporation. The determination of "foreign" is dependent on the percentage of stock capital owned by a foreign entity.86 It must be kept in mind that to the extent that the communication investment comes under the scope of a "cultural industry", the national treatment requirement and the prohibition of subsequent non-conforming measures would not be applicable. 2.3. Mineral and Energy Resources and Fishing Regulatory barriers exist in the fields of mineral and 82 49 U.S. C. s. 1301(3) and s. 1371(d)(1) 83 49 U.S. C. s. 1301(16). 84 ... 47 U.S. C. ss. 151-610o 85 47 U.S. C. Si. 301. 86 47 U.S. C. SS . 153, 31C(e) (1-3). ' energy resources, The Mineral Act of 18 7 287 and the Mineral Land Leasing Act88 limits the exploration and purchase and governs the possession and control of public lands respectively. Foreign corporations and individuals are excluded from the lease of rights to exploit minerals. As regards the issuance of leases for mining of uranium, the Atomic Energy Act of 195489 conditions such leases to a national security requirement. However, national security may easily be denied by reason of nationality or citizenship. Also, fishing in U.S. waters is restricted to U.S. citizens and vessels owned by the U.S., subject to international and bilateral agreements. The citizenship is again determined by the Shipping Act standard. 2.4. National Security; Exon-Florio Provision Under the Exon-Florio amendment to the Omnibus Trade and competitiveness Act of 1988,90 the President is granted authority to halt a foreign acquisition of control oyer a. U.S. business if the investment affects the national security o£ the United States. First experiences with the Exon-Florifr./amendment show that the interagency panel authorized to conduct a' 30 U.S.C. s. 22. 88 30 U.S.C. s. 181 e't seq.. 89 42 U.S.C. s. 2011 et seq.. 90 Pub. L. No. 100-418, s. 5021,102 Stat. 1425 (cod. at U.S.C. s. 2158 (1988)). 174--investigations actually exercises a restrictive impact on FDI." The provision is expected to be used as a defence and delaying mechanism in hostile bids for t.S. companies.92 Exon-Florio comes under the grandfather clause (it was -adopted before the entry into force of the FTA) and thus constitutes a potential impediment to Canadian direct investment in the U.S.. It has to be awaited, though, if in the case where a Canadian investor places such bid, the provisions of the FTA prohibit the application of the Exon-Florio amendment.93 Reporting Requirements The International Investment and Trade Services Survey Act of 1976 applies only to foreign investments in the U.S.. The Act provisions for reporting requirements to the Commerce Department are triggered if the direct or indirect acquisition exceeds ten percent interest in the U,S. business.94 Since the FTA does not cover this issue, Canadian investors continue to be subject to the reporting requirements. These do not explicitly restrict FDI 91 The acquisition of General Ceramics Inc. bv Tokuyama Soda-Company was made subject to the divestiture by General Ceramics inc. of units involved in nuclear weapons production. See NY Times, April 24, 1989, at D6, Col 3. 92 see M, M. Brovrn, "USA", 18 Int'l. Bus. Law. 86-87 (1990) . 93 Arts. 2003 and 2011. The argument could be made that an appreciably wider definition of the national security (Art. .2.003,) .in curdar to pjsahilait 'an acquisition could "cause nullification and impairment" of "a benefit reasonably expected to accrue to Canada" (Art. 2011). 94 22 U.S.C. s. 3101 et seq.(1976) . 175-r but exert a chilling effect on FDI because the Act subjects foreign investors to legal measures they are unfamiliar with. The proposal of the Foreign Ownership Act of 1989 (FODA) introduced in the House by Representative Bryant on January 3, 1989 purports to set up a far more comprehensive regime to disclose information of foreign direct investment than the one currently in force under the International Investment Survey Act of 197 6. The FODA expands its scope to all foreign investments with a stake of 5 percent or more in U.S. business or property whose assets are valued in excess of U.S. $5 million or whose sales exceed U.S. $10 million a year. The information the foreign investor would have to provide is rather extensive and would be made available to the public. The impact of the bill on direct investments from Canada is not clear as it does not come under the grandfather clause of Article 1607. It is therefore subject to the National Treatment Principle established by the FTA and its provision On monitoring.9'' The above mentioned restrictive or chilling provisions will be kept in place and thus affect Canadian direct investment in the U.S., subject to the national treatment requirement and the prohibition of subsequent non-conforming measures . 95.. The Bill was introduced to the House by Representative Bryant on Jan,3, 1989. See H.R.5, 101st. Cong., ls£ Sess. (1989) ; 135 Cong, Rec, H36. Art. 1604. 176--3. Restrictions by the ICA 3.1. Limitation of IC?. Review Thresholds^ The actual liberalization affected by the increase of the threshold for review of direct acquisitions of Canadian enterprises up to CON $150 million becomes less significant with a look at the statistics. Althoucjh the FTA will reduce the number of Canadian firms for which screening would be required, the amended threshold for review will still cover at least 75 percent of all foreign takeovers97 and the acquisition of the top 600 firms in Canada (representing more than two-thirds of the Canadian economy) ,98 3.2. Discriminatory "Right to Exit" With respect to the sale of Canadian businesses a differential treatment between U.S. and Canadian investors is likely to occur. The new thresholds are not only applicable to acquisitions of Canadian businesses by U.S. purchasers, but also to an acquisition of an American-controlled entity by an investor of a-third country.99 Consequently, an American investor selling a Canadian business may find himself in a better position as regards the regulatory approval, than a Canadian investor in the 97 A.M. Rugman in Trade-Offs , supra note 21, at 9. 9S. J.J. Scott, supra-note 12, at 25; A. E. Safarian, "The Canada-U.S. Free Trade Agreement and Foreign Direct'Investment", 3 Trade Monitor 4 (May, 1988)-.. -99 FTA, supra note 2, Annex 1607^3:2(b). 177--same situation.100 As a consequence, the provision discriminates against the Canadian investor as compared to his American counterpart. 3.3. Restrictive Performance Requirements Despite the hroader limitation to impose performance requirements on potential foreign investors, the prohibition on performance requirements is not absolute. First, performance requirements can still be imposed by the Canadian government in the fields of technology transfer, product mandates, and employment of Canadian labour in the establishment or conduct of a business activity'" since these areas are not listed in Article 1603.1 (a) through (d) . Second, the imposition of a performance requirement i s restricted only as a term of condition of permitting investment or in the regulation of the conduct and operation of business enterprises. This leaves ample opportunity to implement measures in the form of subsidies or grants or other investment incentives which would comply with Article 1603.1 as long as the measure does not establish a regulation of conduct or operation of a business. Last, the term "imposition" of performance requirements 100 See D.P. Steger, supra note 68, ?»t 46-47; Free Trade Law Reporter, supra note 1, para. 35,000 at 25.014. 101 G. Rowan "Ottawa '.' to review' Conn aught developments with Merieux", Globe and Mail, March .1990, B22: In order to reach approval for the $952 million purchase by Meri'eux SA, a French company, of Connaught, Merieux had to make a number of commitments to the Investment Canada Agency, one regarding the maintenance of Canadian labour. 1339 3 -jf covers only the requirement of a particular action of an investor, or the enforcement of an undertaking or commitment which were given by the investor after the entry into force of the ETA. Thus, undertakings and commitments entered into before that date fall outside the scope of this Article. 4. Public security In addition, allowance is made for differential treatment if it is not greater than that necessary for prudential, fiduciary, health and safety, or consumer protection reasons.102 The differential treatment is also permitted if it is equivalent in effect to the treatment accorded by the party to its investors for such reasons,105 and if prior notification of the proposed treatment to the other party has been given in form of a written notice.104 This provision purports to enable either country to follow its public policy aims. It may evoke, however, broad legal uncertainty since the terms "prudential" or "fiduciary" c®i be interpreted rather extensively. Even if one takes the view that those terms, if read in connection with health and safety, or consumer protection, take on a narrower meaning,105 the 102 Art. 1602:8 (a) . • 103 Art. 1602! 8 (b) . " 104 Arts. 1602 ; S (c) , 1803. 105 see R. G. Atkey, "A Canadian Perspective on th£ . Investment Implications of the Free Trade Agreement" in Nafeiona3-Institute, United flfrat-gg/Canada Frpp TraHp agrppmpnt:. Tjre ' 1T9-•Z* provision is evidently prone to create legal disputes. The only restriction to an abusive use of this provision is Article 1602:9. It prescribes that the burden of establishing that the different treatment is consistent with the terms of the Agreement is on the party invoking such exception. 5. Omission of Competition Rules on Mergers and Acquisitions Certain laws and regulations affecting FDI in Canada and the U.S. are not precluded by Chapter 16 since they do not immediately impinge on the National Treatment Principls. One of the most important set of rules that affect FDI are the competition rules governing mergers and acquisitions. Considering the well-known continual conflict between the parties in antitrust enforcement matters,'04 a commonly agreed upon regime governing mergers and acquisitions appears to be an essential component to achieve "that investment flow more freely between Canada and the U.S. and that investors be treated in a fair and predictable manner."107 Despite the fact that the regulation of concentrations \s an indispensable prerequisite to Economic and Leaal Implications ; -.hicaaO|. 11.: American Bar Association, 1988) 15 at 31 [hereinafter "national Institute"), 106 D.I. Baker, "Antitrust Conflicts between Friends: Canada and the United States in the Mid-1970's", 11 Cornell Int'l, L.J. 165 (1978); J.'S. Stanford, "The Application of the Sherman Act to Conflict outside the United States: A View from Abroad", 11 Cornell Int'1, L.J. 195 (1978); "Extraterritorial Antitrust Conference", 2 Can.-U.S. L.J. 152 (1979). 107 see FTA, supra note 2, Preamble of Chapter 16, para. 18<L-* provide an environment that could promote FDI throughout the free trade area, the PTA omitted the regulation Of competition rules with the exception of monopolies. A closer analysis of the two national competition laws will demonstrate the restrictive impact on FDI within the free trade area. These are mainly restrictions emerging from the prenotification procedures, private claims for treble damages and class actions, the extent of investigatory powers, and, in particular, the U.S. exercised extraterritorial jurisdiction. The discussion will also show soma similarities in substantive law of the two parties, such as tihe factors to assess anti-competitive conduct. Issues on price-fixing or anti-dumping will not be examined since these matters are not as closely related to the sub j ect matter. In conclusion, the question as to whether the FTA has an harmonising effect on the current divergence of the two national antitrust and competition laws will be examined. 5.1. Divergent Competition Policies -Since the above mentioned restrictions are rooted in the divergent perspectives on national competition policies of the U.S. and Canada, the different economic needs and fundamental policies of the two nations must be understood. It can be partly referred to the earlier discussion on the economic interests of the two parties. However, this needs to be substituted with some aspect on specific competition, enforcement issues. ':.•:. 181- -jf 5.1.1. Canadian Policy of High Concentration of Industry Canada's markets are often small and geographically segregated which frequently led to high levels of domestic industry concentration. Despite their large size relative to the domestic market, Canadian firms may still be too small to be internationally competitive since they do not :each the needed scale of production. Thus, the Canadian national economic interest requires that its competition policy takes these characteristics into account and answers with provisions for efficient allocation of resources and industry performance rather than promoting free competition only for the sake of having established free competition. Canada has had more government participation in its economy than is true in the U.S. ,108 and many Canadian industries have, as one of the actors, a federally or provincially owned entity.109 5.1.2. U.S. Policy of "Free Enterprise"' The U.S. does not accept such a degree of government involvement in the private se- cor. Instead, it pursues a free competition policy ^ based on the "value of individual liberty" and "a solid distrust of government".110 The first antitrust law of 108 C. S. Goldman, "Bilateral Aspects of Canadian Competition Policy" 57 Antitrust L.J. 401, at 402 (1988);- W. Grover, "Canadian Antitrust'Aspects of Competing in Foreign Markets.", 14 Can.-U.S. L.J., 93-94 (1988). 109 see supra note 77. 110 D.I. Baker, supra note 106, at 166. 182-the U.S.,. the Sherman Act,111 was held by the U.S. Supreme Court to be thsi "Magna Carta of free Enterprise"112 illustrating the more vigorous perspective of the U.S. on antitrust enforcement policy compared to the Canadian policy. 5.2. Approximation of Competition Policies It has to be noted, though, that in the 1980's the antitrust policies of both nations approximated to some extent. 5.2.1. Weakening of U.S. Enforcement Policy The enforcement policy of the U.S. weakened under the Reagan Administration primarily due to the loss of economic strength and international competitiveness in U.S. industries of research and technology,113 This resulted in a more protective approach of antitrust law enforcement policy. 5.2.2. Canadian Institution of Tighter Discipline Canada for its part, established with the adoption of the ln 15 U.S.C. s.18. 112 U.S. v. Topco Assocs., 405 U.S. 596, 610 (1972). 113 J.P. Griffin, M.R. Calabrese, "U.S, Antitrust Aspects of Competing in Foreign Markets and the Canada-U.S. Trade Agreement", 14Can,-'J,S, L.J.' 85, at 90-91 (1988); see J. Greenberg., "Understanding Mergers and Acquisitions: The Impact of the Antitrust Laws" 19th Annual Advance Antitrust Workshop, "There has been a massive change in merger enforcement by the Reagan Administration. Conglomerate and vertical mergers are virtually immune from attack. . , , 11, 13 3 -new Competition Act'" and the Competition Tribunal Act'15 in 1986 replacing the venerable Combines Investigation Act116 a tighter regime of competition. Moreover; Canada based its new Competition Act to a large extent on U.S. antitrust experience. The amendments included the test for prohibited lessening of competition, the application to crown corporations, the decriminalization of mergers, the establishment of an adjudicatory body (the Competition Tribunal) , and the prenotification procedure. This contributed to a larger convergence of both nations'' competition rules with respect to acquisitions and mergers.117 S.3, Scope of U.S. and Canadian Competition Rules The competition and antitrust laws of both nations apply to essentially the same forms of mergers and determine anti-competitive conduct by similar standards. 5.3.1. Definition of Mergers, including Joint Ventures; The types of mergers that are covered are horizontal, 114 R.S.C. 1985, c.C-34, Am. R,S, 1985, c.27 (1st Supp, 189; c. 19 (2nd Supp.); c.34 (3rd Supp.) s. 8;c,l (4th Supp.) s , 11; c.10 (4th Supp.), Part 11. 115 ibid, , Part I. 116 R.S.C., C-23 (1970). 117' . J. Davidow, "The United States/Canadian Antitrust Kslationship in the Context of a Free Trade Zone", 12 Can.-U.S. L.J, 25, at 34-38 (1987); C.S. Goldman, supra not< 108, at 404, 184 --vertical, and conglomerate mergers .116 Joint ventures are included under both nation's laws. The Canadian competition law, however, provides for a larger range of exemptions of joint ventures from its application.119 The pertinent U.S. antitrust provisions establish Sections 1 and. 2 of the Sherman Act'20 and Section 7 of the Clayton Act.121 The former forbids mergers, acquisitions and joint ventures if they involve unreasonable restraints of trade with foreign nations or monopolies. The latter prohibits the direct or indirect acquisition of stock or assets where "the effect of the acquisition may be substantially to lessen competition, or tend to create a monopoly".122 The Sherman Act applies extraterritorially with respect to 118 see J.A. Brander, "Mergers, Corrpetition Policy, and the International Environment", in Mergers. Corporate Concentration and Power in Canada, R.S. Khemani et al. (eds.) (Halifax: The Institute for Research on Public Policy, 1988) 109, at 112. Horizontal mergers are mergers between two business units that produce essentially the same product; a vertical merger is a merger between two firms that would otherwise be in a potential buyer-supplier relationship, a merger between firms carrying out adjacent steps in a production process; a conglomerate merger is a merger between firms carrying on different lines of business. 119 corrpetition Act, supra note, s. 95. Exemptions are made under the Corrpetition Act for example, to the extent that no incentive is created for the parties to restructure anti-competitive mergers to escape the application of the laws and for joint ventures formed for a specific project. 120 15 U.S.C. s. 18. 121 . 15 U.S.C. ss. 1,2. , 122 . This may also be prohibited by Section 5 of the Federal Trade Commission Act in case of unfair methods of corrpetition. 18S-export activities'^3 whereas the Clayton Act is restricted in its scope to interstate commerce,124 The Canadian Competition Act prohibits the direct or indirect acquisition of stock or assets if it "lessens competition substantially", However, it has no extraterritorial reach per se . 5.3,3, Appraisal, of Anti-Competitive Conduct (i) Canadian Competition Act: Under the Competition Act the anti-competitive effect of a merger includes the availability of acceptable substitutes: foreign competition or foreign products; existence of artificial barriers to entry into particular markets including tariff and non-tariff barriers; the extent to which effective competition remains or would remain in the market effected by the merger.125 In 1982, Congress limited the application of Article 1 of the Sherman Act to wholly foreign transactions by amending the Act to require that the challenged conduct have "a direct, substantial and reasonably foreseeable effect" on U.S. commerce [Foreign Trade Antitrust Improvement Act of 1981, 15'U,S,C, 6a (1932) ], Accordingly, a clear distinction was made between import related conduct and export related conduct. This means, that if Americans engage in anti-competitive conduct in Canada U.S. law will not apply. But if Canadians take actions in Canada that have an anti-competitive impact in the U.S., there will be government enforcement of U.S. antitrust laws. Thus, the U.S. is much more interested in enforcing and protecting competition inside its own market than outside, even if the conduct is engaged in by Americans. 124 The issue of extraterritorial jurisdiction will be discussed in further detail., infra Section IV. 5.6. ibid., s.93. 1 8 6 -This demonstrates Canada's response to the globalization of competition. Consequently, the Competition Act could prevent the merger of Canadian subsidiaries that results from a merger of their U.S. parents. The Competition Act also provides for several exemptions one of which demonstrates the specific Canadian interest in export increase.126 Thus, a merger may not be prohibited where it can prove that the merger will bring about "gains in efficiency sufficient to offset the effects resulting from any lessening of competition. The outcome depends on the evaluation of whether such gains will result in a significant increase in the real value of exports or a significant substitution of domestic for imported goods.127 It has to be pointed out that the finding of anti-competitive conduct shall not be based only on "evidence of cancentration or market share"128 but any other factor that is relevant to competition in a market or would be affected by the merger shall be considered. (ii) U.S. Department of Justice Guidelines: -In the 1982 Department of Justice1 Guidelines on Mergers, the U.S. took a different position.12' These Guidelines 126 see discussion, supra section II.I,1, 127 ibid,, s. 96. 128 ibid. , ss. 92(2) . 129 . U.S. Department of Justice Merger Guidelines (June 30, 1982), Fed. Reg. 47, 28,493-502. announced a rather mechanistic and arithmetic method to make a finding in order to create more predictability as to the decision-making of the authority in charge. The evaluation of the "substantially lessening of competition" focused on the market share data and the concentration ratios. The preferred msthod to measure these ratios in the case of horizontal mergers is the Herfindahl-Hirschman Index (the "HHI")130 which is the sum of the squares of the market shares of all firms in the relevant market. However, on June 14, 1984 the DOJ revised the 1982 Guidelines131 emphasising that the DOJ will not challenge mergers solely on the basis of concentration and market share data without considering other factors which are essentially similar to the ones set out under the Canadian Competition Act. In particular, foreign competition and clear and convincing evidence that a merger will achieve economic efficiencies were recognized by the 1984 Guidelines. Moreover, the thresholds of the HHI were increased. Nonetheless, the application of the HHI to a considerably higher concentrated Canadian industry (in comparison with U.'s, industry) would still result in the prohibition of large numbers of otherwise admissible mergers ibid,., at S-6 to S-8. , ' " 131 U.S. Department of Justice Merger Guidelines (June 14,-1984), BNA Antitrust & Trade Reg. R e p . N o . 1169, Special Supp.. 188 3 -under the Canadian Competition Act.132 In a similar way, the Antitrust Guidelines for International Operations133 issued by the DOJ in 1988 make explicit mention that besides market share data all other relevant factors should be considered to determine the concentration such as the ongoing changes in market conditions, restrictions on import and exports and include the exception from challenge where the merger would result in "significant net efficiencies that could not otherwise be achieved" ,134 The 1984 Merger Guidelines and the 1988 Guidelines moved away from predictability to greater flexibility and discretion. Thus, 14 out of 15 largest mega-mergers in American history were effectuated during the Reagan era.135 This position is similar to the Canadian approach taken under the Competition Act which leaves, however, the potential investors of either party with a high level of legal uncertainty due to broad discretionary powers of each nations' enforcement authorities and their divergent exercise. 132 J.T. Kennish, "Developments in Canadian Competition Law affecting U.S. Investment in Canada", 57 Antitrust L.J. 459, at 476 (1938) . 133 Antitrust Guidelines for International Operations, June 8, 1988, Fed. Reg. 53, 21,584. [hereinafter the "Guidelines"] 134 ibid., at 15,589. 135 I. M. Pratte, "Canadian Competition: A Leap Forward", 22 The Int'l. Law. 107.1, at note 33 (1988). 189--j1 5.4. Restrictions through Prenotificatioji The prenotification procedures included under both nations' antitrust and competition laws could create a restriction to FDI. 5.4.1. Replacement of ICA Screening As to Canada, this was one of the important amendments made under the new Competition Act. The notification provisions requite that all persons (individuals, companies, or unincorporated entities), who possess Canadian assets or who have annual gross sales revenue in, from, or into Canada, exceeding CAN $400 million, may be subject to the prenotification provisions.136 These provisions are prompted when a person attempts to acquire control directly or indirectly (acquisition of the parent company) of an operating business, the assets or gross sales revenue of which exceeds CDN $35 million.137 Control is defined to be 20 percent of the voting shares of a publicly traded company or 35 percent for a private company. If the acquiring party owns already 20 percent of the voting shares, the prenotification requirement is increased to 50 percent.138 Covered are also amalgamations of two or more corporations .if the aggregate value in Canada of the assets or gross revenues of the continuing' corporation exceeds CDN $70 million, and unincorporated combination of two or more persons to carry on a 136. Competition Act, supra note 114, Part IX, s. 109. 137 ibid., s. 110:4. 138 ibid., ss. 110:2, 110:3. business whose value of the assets in Canada, or revenus in or from Canada exceeds CDN $35 million. Firms and transactions above these thresholds are then required to give notice and supply information in short139 or long form.140 The transaction cannot be completed within 7 days or 21 days depending if the short or the long form was used. The notification procedure intended to provide a screening when large entities make a major acquisition. 5.4.2. Different Mandate of the Competition Bureau and the Investment Canada Agency . These prenotification requirements are of particular importance to U,S, enterprises seeking to establish or extend their Canadian operations. While the ICA thresholds are phased out (for indirect acquisitions) or considerably raised (for direct acquisitions) after 1992, these prenotification requirements will continue to apply to U.S. firms. Considering the fact, that the purpose of the ICA is to foster foreign investment in Canada,141 whereas the Competition Act seeks to protect all Canadian industries, whether foreign-owned or not, against the substantial lessening of competition, the different mandate of the Bureau of Competition Policy (the "Bureau") could represent a hurdle to certain U.S. direct investments in Canada. ibid., ss. 120(a), 121. 140 ibid., ss. 120(b), 122. 141 ICA, supra note 4, s. 14. 1 9 1 -This was clearly demonstrated in the take-over of Woodward's Alberta and British Columbia foodstores by Canada Safeway Ltd., a subsidiary of a U.S. supermarket chain. While the Investment Canada Agency approved the transaction, the Director of the Bureau required that Safeway disposed of 12 out of 23 stores being acquired.142 Also, in February 1989, Investment Canada approved the acquisition of Texaco Canada by Imperial Oil Ltd,, a subsidiary of Exxon Corp., but the transaction has not been completed because the Tribunal considers that it will have anti-competitive effects.143 The recent position of the Competition Tribunal demonstrates its independent application of the Competition Act from the Investment Canada Agency' s practice under the ICA.144 This may well continue in the future with further implementation of the FTA since almost every major direct investment could come under the scope of the Competition Act considering the relatively high concentration in Canadian industry.145 142 Hatter, "Safeway bows to New Competition Act", Fin. Post, May 25, 1987, at 4, col. 1. H3 Fafan, "Imperial's New Texaco Take-over Proposal'Called Anti-Competitive By Dealers, Union", Globe & Mail, Dec. 8, 1989, at B3; imperial Oil to Sell Certain Assets, Cites Antitrust Concerns", Wall St. J., June 30, 1989, at C13. 144 Until recently, no merger approved under FIRA or the ICA had been challenged under Canadian competition laws, see A.K. Tuomi, "Mergers and Acquisitions in Canada: The Interrelationship between Foreign Ownership and Competition policy", 11 Can. Bus. L.J. 316 (1985-86) . . 145 MacDonald Report, supra note 8, at 216 ff; J. Raby, supra note 2 3, at 429. 192--5.43.- The Hard-Scott-Rodino Act In 1976, under the Hart-Scott-Rodino Act, the U.S. introduced Section 7A to the Clayton Act. This Section established a basically similar notification procedure for large mergers and corporate joint ventures. The notification requirements apply to acquisitions where one party must have net sales or total assets of at least US $100 million and the other must have net sales or totai assets of at least US $10 million. The second threshold relates to the acquisition of control. Accordingly, the acquiring person must gain 15 percent or more than US $15 million worth of the voting shares or assets of tha acquired entity.146 Additional size thresholds are provided for transactions involving acquisitions of foreign assets, acquisition by foreign persons and acquisitions of a foreign government or an agency or "controlled" companies thereof.147 In the sense that both pull into the screening process on a non-discriminatory basis all mergers aver prescribed financial threshold levels, the pre-merger notification requirements, of the U.S. and the Canadian competition laws may be considered broadly parallel. Nonetheless, it has to be born in mind that the recently developed position of the Bureau is rather independent from the Investment Canada'Agency and directed to an effective 146 15 U .S .C . s. 18A (1982); 16 C.F.R. ss. 801-803. 147 FTC Rules, ss. 802.50-52. implementation of the new Competition Act. A tighter screening mechanism may emerge under the Competition Act and result in a curb of the effectuation of large mergers (including U.S. participants) in Canada. With respect to restrictive American regulations on FDI, it is important to note that Canadian investors remain subject to certain discriminatory reporting requirements under U.S. laws. For example, reporting requirements of the International Investment Survey Act continue to apply to Canadian investors 5.5. Enforcement and Investigatory Powers A significant difference between the U.S. and Canadian competition laws lies in the enforcement procedure. 5.5.1. Litigious U.S. Approach Despite the fact that the enforcement authorities of U.S. antitrust laws, the DOJ and the FTC, settle about 75 percent of the government's civil antitrust challenges by a "consent decree" negotiated by the government and t" ie party,149 the U.S. ...approach to antitrust law violations is much more litigious.150 This is so because 90 percent of the antitrust litigation is initiated by 148 see supra Section IV.2.5. 149 J.J. Spires, Doing Business in the United States. (N.V.: Matthew Bender, 1990) at para. 35.03. 150 J. Davidow, supra note 117, at '32. 194--private parties.151 Such extensive use of private . claims is based on the incentive given under U.S. law to private parties to sue for treble damages.152 Moreover, mergers can also be blocked quite easily through injunctions by private parties153 since no direct injury to the plaintifl needs to be shown.154 Also, state officials have authority to file parens patriae suits in the federal courts on behalf of natural persons where the^ have been injured by reason of Sherman Act violations.155 Finally, the U.S. operates a vital regime of criminal prosecutions. 5.5JL. Canadian "Fix-it-First" Aoaroach In contrast, Canadian courts refrained from criminal prosecutions which were subject to criminal sanctions prior to the enactment of the Competition Act.156 Nor have the courts experienced many private actions brought forward under 151 J.P. Griffin, "United States Antitrust Laws and Transnational Business Transactions: An Introduction" 21 Int'l. Law. 307, at 313 (198^. 152 Clayton A c t , "nara note 1 2 1 , Art. 4 provides that "any person who shall be injured in his business or property by .reason of anything forbidden in the antitrust laws may sue therefor ... and shall recover threefold the damages by him sustained, and the cost of suit, including a reasonable attorney's fee." 153 15 U.S.C. S. 26. .•...••;.-•. 154 Tasty Baking Co, v, Ralston Pusirva , 1987-1 Trade Cas. '•. •;• 155 15 U.S.C. ss. 15c-h. 156 see Central Potash Co. v. Government of Saskatchewan, • 88 DLR 3d 609 (S. Ct. 1978). 195-competition laws. This is because, for one reason, treble damages awards are unknown under the Canadian competition rules and second, because of the uncertainty of the constitutional status of the private cause of action.157 Although the Supreme Court upheld the constitutional validity of the private damage action provision,'" the endorsed right is much more restricted than under U.S. laws. First, the plaintiff has no right to obtain injunctive relief to preclude or forestall damages sustained. Second, no provision for class action is made.159 Instead, the enforcement of competition rules is primarily exercised by the Bureau. Its general approach as stated by the former Director of the Bureau is "compliance-oriented in order to achieve timely and effective enforcement ...".160 A variety of instruments are available under Section® 102 to 105 of the Competition Act such as advance ruling certificates, advisory opinion, which may include preclosing restructuring, monitoring, undertakings, applications to the Tribunal for consent orders and lastly, contested applications before the Tribunal. It may be submitted that the Director of the Bureau tends to 157 see for example, Joint Hearing on May 17-18, 1988 of cases City National Leasing v. General Motors of Canada [1986] 54 0,R. (2d.) 626, Rocois Construction Ineorp. v. Quebec Ready Mix [1985] 2 F.C.40, [1990] 2 S.C.R. 440: appeal was dismissed on procedural grounds. 158 see General Motors of Canada v. City National Leasing et al. [1989] 1 S.C.R. 641. • 159 see T. Kennish, supra note 132, at 468-69. 160 C.S. Goldman, supra note 108, at 406. 196-\r enforce its competition rules by means of the "fix-it-first" approach rather than through litigation. This assumption may be supported by the number of 212 mergers examined as of the. end of July, 1988 of which most have been allowed by the Director of th® Bureau and only a few were made subject to restructuring* undertakings, and monitoring. In a mere four cases, applications were made to the Tribunal or were before it.161 Consequently, a comprehensive case law is not likely to emerge in the near future that could contribute to the unpredictable investment climate created by the broad discretionary powers of both nations' * —ritiesJ" •5.5.3". Other Divergencies niiroi-rtonr-ioe ovicf as ronarrts invpntigatory powers of the enforcement authorities of the U.S. and Canada. The Canadian — — - j j — that orders as regards oral examination and production of document cai only be executed where the persons subject to the order have or are likely to have infosnaftiom relevant t® t&e 163 -In contrast, under the Hart-Scott-Rodino Act of 1976, the civil investigative demand (the "CID") of the DOJ can also be issued to persons or corporations which are not the target of investigation but are simply believed to possess relevant 161. ibid., at 412. 162 see supra Sections IV.5.3.2., 5.4.2. 163 Competition Act, supra note l k , s. 9. 197--information and must be served outside the territorial limits of the U.S. 16i The CID's unspecific and wide scope is apt to create further conflict between the parties as regards investigation of alleged anti-cornpetitive conduct of Canadian individuals or corporations. 5.6.- Extraterritoriality The Canadian-U.S. relationship over the last forty years is most succinctly described with the following statement: "To trace, the history of U.S,-Canadian antitrust relations is to embark on a roller coaster ride".165 Tha rigorous U.S. antitrust enforcement was generally followed by blocking legislation on the Canadian part and resulted in renewed U.S. litigation which was attempted to be solved by diplomatic efforts which wer^i in turn, unsuccessful.166 §„§>lx. "Effects" Doctrine The U.S. antitrust enforcement policy is based on the "effects" doctrine which means that when foreign transactions hays-a substantial'and foreseeable effect on U.S.. commerce,they J-.J-. Spires, supra note 149, at para, 35.03_. 165 J. Davidow, supra note 117, at 27. 166 see D.I. Baker, supra note 106. at 165; J.S. Stanford, supra note 106, at 195; D.E. Rosenthal, "Antitrust Implications of the Canada-United States Free Trade £vgs:aej&£.int" 57, Antitrust ; L.J. 485, at 493 (1988); A.E. Gottlieb, "Extraterritoriality: A Canadian Perspective " 5 Nw.J. Int'l. L.& Bus. 449, at 453 (1983) . 198 --ir are subject to U.S. law regardless of where they take place. In the U,S,-Canadian relationship this principle found its clearest expression in the A1coa case,167 where a Canadian national, which was found to have operated at arms length from its U.S. affiliate, was still subject to the jurisdiction of the U.S. courts when it specifically intended to affect exports into the U.S.. The "effects" doctrine was established in congruence with the U.S. perspective that extraterritorial jurisdictional reach is a necessary corollary to effective, comprehensive antitrust enforcement. It is viewed that "a naticn seeking an effective antitrust policy must be concerned with restrictive activities off-shore which interfere with its own economy and society."168 Canada perceived such position as using the multinational as a conduit for the extraterritorial application of domestic antitrust laws, and antitrust investigation and proceedings became unilateral dispute settlement procedures in what is clearly a policy conflict between governments.169 167 United States v. Aluminium Co. Of Amelica, 148 F 2d. 416 (2nd Cir» 1945) [herei»f1 er cited as Alcoa] I• . 168 . Rahl, "International Application of American Antitrust Laws: Issues and Proposals", 2 Nw.J. Int'l. L. & Bys'., 336 at 376 ,(1980) . 169 J.S. Stanford, supra note 106, at 201. 199 — jr :5.6.2. Jurisdictional "Rule of Reason11 and Foreign Government With the increase of criticism from abroad as well as from the U.S. business society fearing the threat of a reciprocal treatment bv foreiqn qovernments, this far-reaching jurisdiction was limited in the ruling on the Timberlane case.170 A "jurisdictional rule-of-reason" was adopted pursuant to which the foreign interests were balanced against U.S. interests and foreign governments were provided with defences under the Sherman Act: (1) The Foreign Sovereign Immunities Act: the doctrine of sovereign immunity provides that governmental or public conduct undertaken by a foreign sovereign (or its agents) is not within the jurisdictional reach of the antitrust laws. (2) The State Doctrine Act: the act of state doctrine provides that the lawful act of a foreign sovereign (or its agent) cannot be the subject of judicial scrutiny under the antitrust laws. ' {3) The Sovereign Compulsion: the sovereign compulsion, defense provides that a restraint that is compelled by a foreign government within its territory cannot give raise to antitrust liability (thus, the private conduct is at issue, i-athpr than t-hp nnnrfnnt of the sovereign itself). 170 Timberlane Lumber v. Bank of America, 549 F 2d. 597 ,(Sth Cir c 19761 - ' v . 200 IT However, the rule of reason had not been consistently followed and the U.S. courts would assume jurisdiction in many instances171 and defences for foreign governments had been applied restrictively since these defences do not apply if the government or its agent is alleged liable because of a "commercial" activity as opposed to a governmental activity, or were the foreign sovereigns's mandate would give rise to significant penalties, as opposed to mere denial of benefits. Since compliance of the private sector sought by the government is often exercised without formal legislation the latter •. provision hardly offers a defence.172 As a consequence, further confrontation arose which are most obviously demonstrated in the Potash case1?5 and the Uranium cartel cases.174 5.6.3. Continuing Conflicts; The Potash Case and the Uranium Cartel Cases In the Potash case the U.S. government brought suit against American Potash producers alleging a conspiracy to limit the amount of potash produced in the U.S.. Certain highranking ." officials of the Saskatchewan government were named in the suit 171 see e.g. In re Uranium Antitrust Litigation, 617.F 2d 1248 (7th Cir. 1980); Laker Airways Ltd. v. Sabena, Belgian World Airlines, €3t F 2d. SQ^ '(E.G. 172 ... J.S. Stanford, supra note 106, at 198. 173 see supra note 156. 174 supra note 171. 201-as unindicted co-conspirators. The Uranium cartel cases included Canadian firms that were members of the cartel being sued in private treble damages cases by a U.S. firm. A Canadian government official indicated that cartel activities had been regarded as falling within Canada's national interest, tind that the Canadian subsidiary's compliance with quota ana price provisions had been at the insistence of the Canadian government. Despite this statement bringing forward the defence of sovereign compulsion, one Canadian subsidiary of a multinational U.S. corporation was indicted by the U.S. Justice Department. U.S. antitrust enforcement policy continued to be a potential intrusion into Canadian government policies, in particular with Canada's rather tolerant position to government involvement in industry perceived by the U.S. as one of the most significant deterrents to a cooperative antitrust environment. In the same line falls the exclusion of the State doctrine from application to cases brought by the federal law enforcement authorities under the 1988 Guidelines.175 They also indicate that petitioning a foreign legislature to pass anti-competitive legislation adversely affecting competition in U.S. commerce, does not raise a defence to subsequent U.S..antitrust enforcement under the Noerr-Pennington doctrine.176 Another area of 175 Guidelines, supra note 133, at 21,596 col.l & note 18. 176. see ibid., at 21,597, 21,615. This doctrine holds that collective conduct to seek action by governmental bodies, even though done with an anti-competitive motive and resulting in an anti-competitive restraint, is immune from antitrust attack. The doctrine is based on two Supreme Court cases, Eastern R.R. conflict establishes the treble damages award granted under U.S. antitrust laws. Under the Pfizer decision in 1978,177 the Supreme Court extended the treble damages award granted under U.S. laws to foreign governments. However, this extended application was restricted by the Congress1 amendment of the Clayton Act in 1982. Thus, foreign governments can only recover actual damages and costs.178 5.6.4. The "Memorandum of Understanding of 1984" In this conflict stricken field of antitrust enforcement, diplomatic efforts were undertaken to provide a cooperative, as opposed to the long lasting confrontational approach. The Memorandum of Understanding between the U.S. and Canada as to Notification. Consultation, and Cooperation with Respect to the Application of National Antitrust Laws was signed on March 9, 1984 (the "Memorandum").179 It provides notification whenever a party becomes a aware that an antitrust investigation will involve a national interest of the other country or the discovery of documents or other. : evidence located within the other country. An order to seek Presidents Conf. v. Noerr Motor Freight, Inc., 365 U.S. 127 (1961), United Mine Workers of Am. v. Pennington, 381 U.S. 657 (1965). 177. Pfizer v. Gov't of India, 434 U.S. 308 (1978). 178 15 U.S.C. s.15(b) (1982). 179 reprinted in 23 ILM 215 (1984)'. information for discovery was established, which obliged the parties to seek information in the other country only when it was not available in its own territory. This information had to be sought by voluntary means and as a last resort by compulsory process. Of importance was the guaranteed confidential treatment of all notifications and consultations which proved to be one of the multiple issue contributing to the failure of a succeeding agreement of that sort.180 Nonetheless, the Memorandum did not eliminate the antitrust conflict between the parties. Instead, Canada enacted blocking legislation on p r o v i n e i i l 1 8 1 and f e d e r a l l e v e l 1 8 2 i n 9 r d e r t o p r e t e s t d o m e s t i e industry and implement national economic interests. 5.6.5. Canadian "Blocking" Law: FEMA On February 14, 1985, the FEMA entered into force providing that, when in the opinion of the Attorney General of Canada, extraterritorial action infringes upon Canadian sovereignty or adversely affects Canadian trade or commerce, the Attorney General of Canada may prohibit or restrict all discovery related actions, order the non-enforcement and nonrecognition ,of a . foreign judgment or order and reduce the amount of a foreign 180 The Fulton-Rodgers Understanding of 1959. 181 see e.g. Business Records Protection Act. S.O. 1947, ch. 10, now Ont. Rev. Stat; ch. 54 (1970); Business Concerns Records..Act, S.Q. 1957-58, ch. 42, now Que. Rev. Stat. ch. 278 (1964) . •• V V ' 182 see Foreign Extraterritorial Measures Act [hereinafter • the "FEMA"], reprinted in 24 ILM 794 (1985). M i l i i H i i i i i ^ ^ K 204 T judgment to an amount he finds equitable (e.g. the reduction of a U.S. treble judgment award by two-thirds). These concepts are also reflected in the Competition Act.183 Moreover, proposals have been made that Canada should reconsider its traditional position on "domestic" competition law enforcement.184 Such extraterritorial application found some expression in the investigatory powers of the Director of the Bureau. For example, in cases where pursuant to Subsection 9:2 sh order for production is sought against a Canadian corporation, that corporation may also be ordered to produce records in possession of an U.S. affiliate. Subsection 14:1 operates in a similar way concerning the searching of premises: "Any data contained in or available to the computer system" may be searched including access to information of the main data bank through use of that computer system even where the main data bank is located outside of Canada. An extraterritorial effect is contained in Section 31:6,185 condemning any direction by a foreign parent of subsidiary in Canada which has the effect of injuriously restraining the export interests of Canada. This demonstrates that Canada a},-o seeks to expand its jurisdiction extraterritorially to ensure its most important economic interests. 183 Competition Act, supra note 114, for example, ss^ 54 & 55'. ••..-• 184 D.E. Rosenthal, supra note 166, at 495; D.I". Baker, supra note 106, at 193-94. 185 R.S.C. c. 23, s. 31:6 (1970), as amended. 20-5-r Despite the intervening periods of cooperation, the divergent views of Canada and the U.S. on the role of antitrust enforcement continues to be an environment apt to frictions. As a result, the extraterritorial enforcement policies continue to be of high importance to mergers and acquisition in the U.S.-Canadian free trade relationship. 5.7. Impact of the FTA 5.7.1. Designation of Monopolies Only the regulation of monopolies is explicitly covered by the FTA. Article 2010 provides that either party may maintain, or designate new monopolies in any relevant market. Prior to a "new" designation the other party must be notified and, if requested, consultations will ensue in an effort to minimize any nullification or impairment of the benefits of the Agreement.186 Once a monopoly is designated, either party is obliged to prevent anti-competitive conduct through discriminatory practices, cross-subsidization or predatory conduct by the monopoly against firms of the other party. Otherwise, the competition and antitrust laws governing business conduct in Canada and the U.S. respectively continue to apply to monopolies. 5.7.2. Confidential Treatment of Information. Article 1604 Article 1604 provides for confidentiality of.information 184 Arts. 2010, 2011:1. ' 206— . r submitted by American and Canadian investors to the extent that its publication could impinge on the competitiveness of their investments. This provision goes beyond the scope of similar confidential treatment provision under the Memorandum since it is legally binding on the parties. 5.7.3. Harmonising Tnpact on the "Relevant Market11 Determination The FTA does not include any commitment to the harmonisation or standardization of the antitrust or corrpetition laws of the two nations at its present stage. Nonetheless, it is expected that the increase in trade and investment induced by the FTA will have a considerable impact on corrpetition in both countries' markets. National corrpetition policies may eventually extend their perspectives and application beyond national boundaries to the other party's market,1®'' This assumption is based on the facts that the FTA creates a continental market geographically and that the determination of "a relevant market"lS4 is the essential element of any competition law analysis. It can be supported by the fact that accelerated tariff reduction* as set out under the FTA has already been taken into account .for the 187 see G. Addy, Free Trade Law Reporter, supra note 1, at 25,012; J.T. Kennish, supra note 132, at 481-83; C.S. Goldman, supra note 3.08, at 408-09. 188 The relevant market is determined by the product and . geographic market. The product market is generally defined to be that ar.ea of product or services in which the product or products offered by the defendant effectively compete. The,geographic! market is generally determined to be the geographic area of ..'''.,. effective competition in which the product or services are • traded. See J.J. Spires., supra note 149, at para. 36.03[2] (b) '". rrfirfi^ rF'"*^ ^ 207---•j? approval of mergers under the antitrust and competition laws of the two parties.189 Also, the discretionary powers of the DOJ were extended as to whether "the interests of the U.S. are more significantly affected than are those of the foreign sovereign, or where the compelled conduct would be more harmful to the U.S. than would be any potential for injury to U.S. foreign relations that may result from an antitrust suit."190 This statement indicates that the U.S. government will take into account the political and economic changes emerging under the FTA in its relationship to Canada for the determination of extraterritorial jurisdiction. 5.7.4. Equivalent Benefit: Simple Damage Award The recently passed bill in the House of Representatives under the National Cooperative Research Act of 1984 ( the "NCRA") on a simple damage award against manufacturing joint ventures which, however, excluded production joint ventures where foreign participants controlled more than 30 percent from its scope is another illustration of the impact of the FTA on FDI between the parties. The bill, passed on June 5, 1990, explicitly-provided 189 Guidelines, supra note 133, at 21,598; Competition Act, supra note 114, s. 93. It is important to note that there are markets in which the FTA will have little effect, such as markets where no significant tariff barriers exist at the present time, or in which there are significant foreign ownership restrictions, or are still government regulated, or markets in which other factors insulate them from foreign competition, such as transportation costs or local preferences. Guidelines, supra note 133, at 21,596. 208-r that any right or obligations under the FTA shall not be affected.191 Thus, the National Treatment Principle, mandatory for Canadian investments under the FTA, shows its first effects in the field of competition law. 5.3. Subsisting Restrictions However, the restrictive impact of divergent competition rules on FDI continues to be the most important area of conflict between the parties as it was not negotiated under the FTA. The FTA is silent with respect to extraterritorial jurisdiction, ; private treble damage actions, and American style discovery. Moreover, the likelihood that Canadian prenotification provisions under the Competition Act may be used as a tight screening mechanism does not contribute to a cooperative approach to regulate mergers and acquisitions. Last, the dispute settlement provided for FDI under the FTA does not cover competition issues relating to mergers and acquisitions.192 The progress made in order to reach a more common . J.I. Zuckerman, "House Passes Antitrust Bill .on Joint Ventures", 18 Int'l Bus. Law., 351 (1990). 192 see FTA, supra note 2, Chapters 18 and 19. Chapter 18 deals with dispute settlement related to investments. The provision obliges the parties to make every attempt to name panellists who are experienced and competent in the field of international investment, and that the panel has to take into account internationally recognized rules for commercial arbitration. Article 1608.4 of the ETA. As regards direct investment issues not covered by the FTA, the parties- and the investors of each party retain their rights under customary ' international law. Chapter 19 only deals with issues arising fxQm. anti-dumping and countervailing duties. : ' 209 _ perspective on competition laws, proves to be insufficient to eliminate the restrictions on FDI. The economic interdependence enhanced by the FTA on the one hand, and the divergence of antitrust and competition enforcement policies on the other, will undoubtedly come to bear in the context of future disputes over antitrust enforcement within industries vital to both parties. It is submitted that as long as each country pursues divergent national economic interests a different exercise of discretion in compliance with each nation's policy will be the outcome. This will, in turn, result in different conclusions even in cases where these conclusions were based on similar facts. As a consequence, the U.S.-Canadian free trade area lacks predictability and legal certainty which are two essential elements to liberalize and promote FDI. V. CONCLUSION The four predominant components of tha provisions on FDI under the FTA are established by the National Treatment Principle, the gradual elimination of thresholds under the ICA, the prohibition of performance requirements, and the standstill of discriminatory measures. These provisions have definitely contributed to the liberalization of direct investment among the parties and may actually be considered as a "significant 210- --j departure'"" from investment policies in the 1970's which strongly emphasized on Canadian independence from the U.S., Considering that the FTA establishes, one might ^ say, the first bilateral agreement between Canada and the U.S..in the field of FDI, the agreement establistes certainly a vital development in the progress to liberalize-EDI -among the' parties.194 However, the belief of the partie.s that the FTA is "a powerful signal against protectionism and for trade appears rather questionable, considering the abundant restrictions on the renulation of FDI. The qualification of the National Treatment Principle allows for ample restrictions providing for the outright exclusion of certain sectors of the economy from the application of the National Treatment Principle, the safeguarding of existing discriminatory measures, and the exemption of sensitive political and economic sectors from amendments of ICA. Also, the increase of the thresholds of the ICA does not fully liberalize direct acquisitions of Canadian-owned enterprises. With respect ,93 P.J. Lavelle, Q. Barrows, F. Traficante, "The Ontario Government's Perspective T\S'. Free Trade Agreement", 53 Bus. Quart., 8 at 12 (198$)). 194 . Under the by Canada recently entered BIT'S with .the Sowjet Union and Poland, an applicati<an of the benefits granted under the FTA is explicitly excluded, see for example, Art. IV(a) of the Agreement between the Government of Canada and the Soviet Socialist Republics for the Promotion and-Reciprocal Protection of Investments, signed in Moscow on !fcv. 20, 1989. 195 Canadian Trade Law Reporter (CCH Canadian Ltd, 1988) at-para. 55,000. to the imposition of performance requirements, it has to be noted that their prohibition is not absolute since it does not cover all economic fields and can easily be substituted for, by way of world product mandates in order to achieve a similar effect. Differential treatment is explicitly allowed for public policy reasons. Another impediment to full liberalization of direct investment is that the governments of both parties maintained their powers to restrict FDI by means of industrial policies. Despite the fact that national competition laws and policies are of great importance to the decision of a foreign investor to set up and operate a business abroad, the regulation of mergers and acquisitions was fully omitted under the scope of the FTA. Potential investors of each party are left with a confrontational, unpredictable and legally uncertain FDI environment. Moreover, the mandate of the Competition Bureau differs from the one of the Investment Canada Agency in the sense that the former has to establish an efficient competitive structure whereas the latter has the mandate to promote the investment climate. Consequently, the prenotification requirement of the Canadian Competition Act could easily be . turned into a tight screening mechanism of FDI from the U.S.. In conclusion, it may be submitted that the regulation of direct investment under the FTA constitutes a welcome evolution of the historically strong bilateral relation between the two nations 'influenced by the growing competitive pressures in the international trading system. Necessarily, it establishes a 212--political compromise between the parties. The outcome appears to be, however, rather a result of their negotiation power stemming from each nation's global economic strength, than a true effort to virtually liberalize all direct investment activities among the parties within a free trade area. 21-3-PART III, CHAPTER 5 LESSONS TO LEARN FOR THE U.S.-CANADIAN FREE TRADE AREA I. INTRODUCTION The FDI liberalization achieved under the Treaty as amended by the SEA reflects a more ambitious and comprehensive approach than that taken by the FTA. The structure and objectives set out under the Treaty as amended by the SEA demonstrates a largely different position of the EEC on FDI liberalization based on the idea that the interdependence and the dwelling together of the 12 Member States will be of mutual benefit, while the FTA preserves national interests and distinctiveness between the parties• policies. The latter is most obviously reflected in the omission of competition rules, the outright exclusion of sensitive economic and political sectors, the increase and phasing out of ICA review thresholds, the prohibition to impose certain performance requirements, and the progressive privatization of crown corporations. This demonstrates that the FDI regulation under the FTA is a mere settlement of the most vexing investment issues between the two parties which occurred in the past. It fails to provide a legal fraznewoick foe future issues on FDI To the contrary, the Treaty and the recent initiative taken under the SEA constitutes a regime which addresses future developments emerging from the amendments made under the Treaty to establish a unified market by the end of 1992. This chapter will show the more comprehensive FDI liberalization under the Treaty as amended by the SEA in comparison with the FTA. It will show that the Treaty provides for a right of establishment covering all sectors of the Member States' economies, while the FTA abstains from granting such right and fully excludes specific sectors of the economy from its application. Moreover, the FTA falls short of furnishing complete non-discrimination due to ample qualifications and leaves numerous options for one party to maintain or introduce protective measures on direct investment of the other party or its investors. Thus, more room is given to differential treatment under the FTA in comparison with the Treaty. Constraints on sovereign rights are kept to a minimal level and emphasis is put on the preservation of distinctiveness between the parties to the FTA. In contrast, the Community's objective to accomplish the welding together of the twelve individual markets of .the Member States into one single market of 320 million people, and the flexibility of this market so that resources, such as capital and investment, can flow freely to the area of the greatest economic advantage.1 The Treaty,as amended by the SEA explicitly aims at 1 see White Paper, supra Part I, Introduction, note 1, pt. 8. • 1376-5--j full interdependence of its Member States establishing the transfer of sovereign cowers to a large degree to the Community. It strives for broader legal certainty throughout the Common Market through the harmonisation of national laws and the creation of a supranational legal framework facilitating industrial cooperation between the Member States. The provision of individual rights oromotes a positive investment climate since these rights are enforceable by private investors in national courts. All of the above will prove that liberalization of FDI realized under the Treaty as amended by the SEA is more profound and coi^rehensimi than under the FTA. . . • For a QQmjarBftefflEajvje understanding of the more fundamental FDI liberalization achieved under the Treaty it .is indispensable to first introduce the differences between the Treaty and the FTA. These divergjencies can be found in their legal structure and objectives resulting from their different economic and political . II. DIVERGENuiiiS BETWEEN THE TREATY AND THE FTA The primary objective in liberalizing FDI is to eliminate control mechanisms which could inhibit investors from placing or operating their investment and to provide them with legal certainty and predictability in order to promote FDI activities.' • 2 1 6 --jr The Treaty and the FTA made the liberalization and promotion of FDI part of their regime of economic integration. The comparative analysis of the two agreements is characterized, however, by broad differences in the approach they take in achieving this goal. 1. Economic and Political Histories At the time of the draft of the FTA an advanced economic integration between the U.S. and Canada was already present. In particular, in the post-war era of World War II liberal policies encouraged economic growth through increased American investment in Canada which in recent years became the converse, in relative terms.2 The FTA can therefore not be seen as the initiator of an economic integration.3 It may rather be described as the latest stage of an historical process under way that commenced in 1854 with the Elgin-Marcy Treaty and was followed by multiple sectoral agreements among the Parties. The FDI regulation under the FTA should be understood as a restructuring of international capital which historically promoted economic integration between the U.S. and Canada. At the time the Treaty was drafted, the then six Member see supra Chapter 4, note 21. ibid. States' had more diverse conditions in their domestic capital markets and monetary reserves due to their divergent national economic policies. In particular, France was in a permanent balance of payment crisis and pursued a restrictive foreign exchange policy inhibiting FDI from other Member States.5 These differences are also reflected in the approach the Member States took with respect to company laws (real seat theory versus incorporation theory), and in the fact that merger control mechanisms were merely adopted in a few Member States.6 Another difference is that the U.S.-Canadian relationship is characterized by the Canadian "fear of complete assimilation",7 a traditional view that American influence is so pervasive that it has left Canada, politically and economically, permanently vulnerable.' Tho loss of political, social and cultural distinctiveness strongly influenced the Canadian position in the negotiation on FDI liberalization under the FTA. In contrast, the EEC countries do not share such fear of assimilation since they differ far more profoundly from one another than the U.S. 4- Belgium, France, Germany, Italy, Luxembourg,.. Netherlands. 5 see for example, C. Torem & W.L. Craig, "Control of Foreign Investment in France", 66 Mich. L. Rev. 669-720 (1967-68) . 6 see Chapter 3, note 56. 7 . MacDonald Report, supra Chapter 4, note 8, at 352-53. 8 M.B. Montcalm, "Free Trade and Continental Integration", in The Free Trade Deal, D. Cameron (ed.) (Toronto: James Lohrimer £ Co. Pub., 1988) 176-77. ' 218 -jr and Canada. Culture, language, destructive wars, and enmity mark the relationship between the Member States. Moreover, the problem the U.S. and Canada have to face with respect to their large discrepancy between the size of the two economies is not shared by the Member States.9 Also, the distribution of power among the principal members of the EEC is less disparate than within the U. S.-Canadian relationship. Finally, over 3 0 years of time difference between the creation of the EEC and the U,S,-Canadian free trade area has to be taken into consideration for the evaluation of FDI liberalization under the Treaty compared with the FTA. 2. Legal Structure and Objectives It is important to point out that the Treaty and the FTA are based on different legal frameworks with divergent prerequisites. The Treaty is based on a customs union as provided for under Article XXIV;8(a) of the GATT. It establishes an association of nations with duty free treatment for imports from members and a common-level of external tariffs for imports from nonmembers. Since the Community's aim was and still is to create one single market without any internal barriers to trade and investment, the customs union was the mast appropriate form of economic integration to accommodate th'is goal. It was a key issue for the 9 M.G. Smith, "A Canadian Perspective", in Perspectives on A U.S. - Canada Free Trade Agreement. R.M. Stern et al. (eds.) (Ottawa: The Institute on Public Policy, 1987) 31 at 36. 219-EEC to overcome the historically grown diversities in order to reap the benefits of economic integration through cooperation. In contrast, the key question for the U.S. and, in particular Canada, was how to reap benefits of the economic integration under the FTA while preserving diversity. Thus, the governments of the U.S. and Canada chose a free trade area as their legal frame of economic integration which, as set out under Article XXIV: 8(b) of the GATT, does not require a uniform set of trade and common commercial policies to be applied to third countries, and the free movement of labour and capital. This clearly shows that the Treaty's and the FTA's divergent positions on the liberalization of direct investment which necessarily leads to a different regime of such liberalization. All these divergencies have to be born in mind for the following assumptions and recommendations cannot be made without some reservation due to these historically grown divergencies. III. FUNDAMENTAL VERSUS SELECTIVE FDI LIBERALIZATION 1. Coherent Application of General Principles versus Selected Obligations The Treaty establishes coherently applied general principles underlying the liberalization' of FDI. First, Article 2 requires the promotion throughout the Community of a harmonious development of economic activities, a continuous and balanced 220-expansion, an increase in stability, an accelerated raising of the standard of living and closer relation between the States belonging to it. Its most obvious application can be found in the creation of a legal framework to facilitate the cooperation of enterprises. In the field of competition, Article 3(f) of the Treaty specifies that the objectives of Article 2 of the Treaty shall be pursued through "the institution of a system ensuring that competition in the corranon market is not distorted". This principle is implemented by the supremacy of. Articles 85 and 86 over national competition laws' and the recent adoption of the Merger Control Regulation governing Community concentrations on a supranational level. Second, Article 7 of the Treaty establishes the prohibition of discrimination on grounds of nationality. The obligation of non-discrimination can be found in all of the provisions relating to FDI within the Community,' i.e. in freedom of establishment, the free movement of capital requiring the abolition of restrictions to these freedoms and in:the: application of merger control on a Community level.10 In contrast, the FTA may be considered as a fragmented agreement where a completely coherent application of legal principles is missing. The FBI regulation consists of different 10 Art. 52(1) with respect to the right of establishment,, -alas! Act, as lx%g.acdsiJae-iree ^capiJifi, a7.though subject to the "proper functioning of the common market" and Directive No. 88/361, EC O.J. 1988, L178/5 providing for the completion of the freedom of capital movement, Arts. 8'j, 86 and Reg. No. 4064/89 for the regulation of concentrations on commum.-t,y level. 221-levels of international obligations regarding direct investment policies,, and different sectors are subject to different types of obligation, or are fully excluded from any obligation, depending on each parties' specific concerns. 2. Definition of Investment and "Measures" The Treaty and the FTA apply a similar definition of investment. It covers the setting up of nsw enterprises, the acquisition or take-over of existing firms, and the conduct and operation of enterprises. Also, the definition of business enterprises coming under the scope of the Treaty and the FTA is similar. The FTA covers any kind of juridical entity involving a financial commitment for the purpose of commercial gain and the Treaty covers "companies" meaning an entity which is able to carry legal rights and obligations and has as its purpose a profit-making activity. However, the Treaty's obligations cover corporations which are state-controlled, while the FTA exempts crown corporation from the immediate application of the National Treatment Principlei The Treaty applies the incorporation theory to determine whether an investment comes under its scope and thus, is satisfied with a registered office within the territory of the Treaty's application. ; As regards free movement of capital, the Treaty provides for a broad definition. It covers direct investment of all kinds by natural or commercial, and industrial 2 2 2 --jr undertakings serving to establish direct links between the person providing the capital and the entrepreneur to whom or the undertaking to which the capital is made available in order to carry on an economic activity.11 "Ifew" forms of direct investment, such as joint ventures and licensing agreements if closely related or necessary for the effectuation of the merger etc., are included under the Merger Control Regulation.12 : In contrast, the FTA requires a business enterprise to have a place of business, employees or self-employed persons, and assets used in carrying on the business. These prerequisites reflect the more traditional definition of direct investment applied under the FTA. It omits to cover the above mentioned "new" forms of investment. ' It is worthwhile noting that this definition is not even chosen under the recently concluded Canadian-USSR BIT, and the U.S. Model BIT, which both include joint ventures, licensing and transfer of technology agreements.13 The definition used under the ETA is thus rather limited and is likely to have a restrictive impact on direct investment within the free trade area.1-4 - ' • 11 see supra Chapter 2, note 32. 12 see suDra Chapter 3, sections IV. 3.1. & 3.4. . 13 see Canadian-USSR BIT, supra Chapter 4, note 194, Art. 1(b); U.S.. BIT, supra Chapter 4, note 43, Art. 1(c) . 14 With respect to third country investors, it is interesting to note that the FTA is more restrictive than the Treaty. The FTA requires the fulfilment of the acquisition of control through the acquisition of ownership of an enterprise in 223--Certain similarities exist as regards the definition of measures covered under the national treatment obligation. Both agreements determine them as laws, regulations and practices (including published policies under the FTA) regardless of whether or not they stem from legislative- or administrative measures. However, the qualification to the National Treatment Principle under the FTA leaves it compared with the Treaty on a less profound level of FDI liberalization. 3. coverage of Economic Sectors The Treaty provides the freedom of establishment, the free movement of capital, and the supranational regulation &f throughout the Community in all sectors of the economies of the Member States. In contrast, the FTA do_; not grant a right of establishment and makes a careful selection of sectors which are excluded from its application. A broadly defined cultural industry including the communication industry is fully exempted from its scope with the exception of the prohibition of divestiture of an indirect acquisition.15 The transportation industry is also excluded. Hence, the benefits of ewter fee en^ey mtionai treat-..^, Art. 1611, para. 3 of the FTA. Consequently, the FTA does not cover joint ventures when the control requirement is not fulfilled, since the Treaty rejects the control theory and applies the incorporation theory joint ventures are covered regardless of the level of ownership. 15 Arts. 2005, 1607:4. flirt n n i7\~n niTo u u u. u . u u i u - ». . ... hr. 224---jf the Jones are maintained only for U.S. citizens and Canadian investors can be excluded from the U.S. transportation industry. Finally, the operation and conduct of service businesses in transportation, telecommunication, health, social and educational related sectors are not covered under Chapter 16 of the FTA.17 Thus, Canada and the U.S. can design whatever policies they want to and the rules applied in these fields do not need to be equivalent for Canadian-owned and U.S.-owned businesses. In contrast, the Treaty provides unconditional non-discrimination £ox the conduct and operation of businesses once they are established within the territory of its application.18 4. Complete Non-discrimination versus Qualified National Treatment 4.1. Complete Abolition of all Restrictions under the Treaty The Treaty as amended under the SEA implements complete non-discrimination through standstill provisions and the progressive elimination of restrictions on grounds of nationality.. No . general exemption is made for certain sectors of the economy. Only temporary exemptions are granted tc new Member States in 46 U.S.C. s. 27, see discussion supra Chapter 4, section IV.1.1. 17 Arts. 1601:3, 1602:1(c) of the FTA. 18 Arts. 52(2), 58, 67(1) of the Treaty. 225-order to provide a smooth adaptation to the Treaty regime.19 Since these provisions remove national restrictions to provide free establishment and free movement of capital,20 the Treaty provides companies and individuals with the right to engage in economic activities in any Member State. EEC-investors have the necessary flexibility to achieve the most effective utilization of resources as national control mechanisms are prohibited. 4.2. Exceptions under the FTA The FTA differs considerably from the non-discrimination obligations set out under the Treaty. It provides national treatment for the establishment of businesses only prospectively and is satisfied with a selective rollback of barriers to the acquisition of existing enterprises and to the conduct and operation of enterprises. Accordingly, existing laws, policies and practices continue to exist in the field of transportation, aviation, culture, and energy maintaining FDI control mechanisms in both parties' legislation. 19 For example, Portugal and Spain received temporary authorizations to restrict intra-Community FDI, see, supra Chapter 2, notes 61-63. 20 see discussion infra section 4.'4, 4.3. Selective Rollback under the FTA 4.3.1. ICA Review Thresholds A rollback of restrictions is provided by the amendments to the ICA, thus increasing review thresholds for U.S. acquisitions of Canadian-owned enterprises. However, these changes will not apply to the oil, gas, and uranium sectors. Also, the increase of the thresholds from CDN $ 5 million to CDN $ 150 million for direct acquisitions and the phasing out for indirect acquisitions are not as significant as they may seem at first sight. The increase of thresholds for direct acquisitions is in practice not that significant since the threshold still covers 75 percent of the formerly reviewable assets.21 A closer look of the phasing out of screening for indirect acquisitions contributes to the tenuous character of the ICA threshold amendments. Its actual impact is considerably reduced since the energy and cultural industries are fully excluded from its scope which were the primary subjects of review under the FIRA and the ICA agencies.22 4.3.2. Performance Requirements A rollback establishes also the prohibition of certain performance requirements. However, merely import and export 21 A.M. Rugman, in Trade-Offs. supra Chapter 4, note 21, at 9. 22 A. E. Safarian, supra Chapter 4, note 98, at 3. 227--requirements are covered and thus, a wide, range of performance requirements can be imposed in the fields of research and technology, world product mandates, and employment. 4.3.3. Crown Corporations The incorporation of future acquisitions of crown corporations under the FTA illustrates another attempt to eliminate government controls on FDI. Nonetheless, the exemption of existing crown corporations from the National Treatment Principle and the option to control future privatization of crown corporations through limitation of foreign ownership with respect to initial acquisitions of such corporations maintains an important control mechanism. 4.4. Capital Movement 4.4.1. Full Liberalization under the Treaty The national treatment obligation is applied differently with respect to the freedom of capital movement. Because of restrictive foreign exchange controls adopted by most.Member States, the progressive abolition of the restrictions affecting direct investment between Member States and their investors constitutes another obligation to implement non-discrimination. A screening mechanism maintained by the Member States in order to determine whether the transfer in question was a libferalized direct investment activity eventually became obsolete through the 228 • -j* adoption of Directive No. 88/361 implementing the complete liberalization of all capital movsment since July 1, 1990, including current payments and transfers. The initiative taken under the SEA provoked also the repeal of previously more generously granted authorizations to Member States. To date, transitional measures are permitted for new Member States to restrict intra-Community FDI.23 Otherwise, information related to FDI can be requested by Member States and their authorities from EEC-companies and nationals within the Community solely for statistical reasons. Consequently, a harmonious development of economic activities in the Community is reached since sufficient capital is made available and the sources of capital are diversified to enable investments to be financed in the. most rational way. 4.4.2. Liberalized Capital Transfers under the FTA In opposition, the FTA excludes the free movement of capital from its scope. This was a predominant reason why the parties to the FTA chose a free trade area, since they wanted to remain free to protect national policies in this area.24 Besides the regulation of capital transfers, the FTA does not tackle the liberalization of capital movement. This omission does not necessarily mean that capital movement between Canada and the U.S. is restricted. As opposed to the Community, movement of 23 su)\:a note 19. 24 Macdonald Report, supra Chapter'4, note 8, at 306-307. 229-capital never constituted a significant problem in the U.S.-Canadian relationship since foreign exchange controls did not exist as they did in the Community.25 Considering that at the time of the conclusion of the FTA a liberal situation of capital movement existed, an extensive regulation was not as necessary as it was under the Treaty. Thus, the regulation of unconditional transfer of capital under Article 1606 of the FTA did not cause any substantial changes to the prior situation. There are no restrictions on the patriation of profits or the proceeds of a sale. However, it is worthwhile noting that the Treaty goes beyond the scope of Article 1606 as it restricts the application of balance of payments measures to FDI and its related capital transfers, whereas the FTA exempts the application of balance of payments measures to capital transfers. 5. Differential Treatment 5.1. Public Policy/Security The usage of differential treatment on public policy grounds demonstrates again the tighter discipline of FDI liberalization under the Treaty. While the application of Articles 55 and 56 is subject to the restrictive interpretation established by the ECJ which requires a genuine and' serious threat to public policy 25 P. Wonnacott, The United States and Canada; The Quest For Free Trade (Wash., D.C.: institute for International Economics, 1987) at 124. 230--affecting one of the fundamental interests of society, the use of the public security provision under the FTA is merely conditioned by a burden of proof rule which could limit its abusive use to introduce discriminatory measures. 5.2. Discrimination against out of Province/State Companies The implementation of the national treatment obligation pursuant to Article 1602:4 of the FTA in provinces and states may lead to the discriminatory treatment of out of state/province companies against Canadian/American companies distorting the free flow of investment in the free trade area. 5.3. "Right to Exit" The right to exit, i.e. to sell a Canadian business to a third party may result in a discriminatory treatment against Canadian investors. This discrimination results from the provision that the new ICA thresholds apply.also to an acquisition of an American-controlled entity by a third country investor.26 In case of sale of a Canadian enterprise to a third party, the American investor may find himself in a better . position with respect to the regulatory approval than his Canadian counterpart. This form of discrimination could not materialise under the coherent application of the Treaty provisions due to their immediate and direct effect: in the Member States. Again, it confirms the less comprehensive, application of 26 see Annex 1607.3:2(b) of the FTA. non-discrimination under the FTA. 233,-6. Maximal versus Minimal Coordination The Treaty, as amended by the SEA, not only provides for the abolition of restrictions to FDI established by national laws of the Member States, but goes a step further and provides for harmonisation directives and supra-national law creating a legal framework for the cooperation of enterprises in different Member States27 and for the coherent implementation of merger control throughout the Community.28 The FTA does not provide for a framework to facilitate industrial coordination. No provision is made for the harmonisation of national laws or a supranational framework to provide some sort of cooperation. 6.1. Flexibil tv of Enterprises under the Treaty 6.1.1 Framework facilitating Cooperation of Enterprises A clear goal of the Treaty, as reinvigorated by the SEA, is the interdependence of the Member States which, in turn, requires the complete removal of internal barriers through the 27 Art. 54 of the Treaty provides for a legal framework for industrial cooperation, EC Commission: An ever closer Union, A Critical Analysis of the Draft establishing the European Union", R. Bieber et al.(eds.) (Luxembourg: Office for official Pub. of the EC, 1985) at 22-24; see also text and footnotes accompanying Chapter 1, section IV.1. for the right"of establishment. Arts. R7, 235 of the Treaty. 232 v harmonisation of laws.29 A significant example establishes the Harmonisation Programme on national company laws aiming at the creation of a legal framework facilitating the cooperation of enterprises in different Member States.30 The Treaty provides for a second option to eliminate the impediments to the free establishment of companies through the Regulations on the EEIG and the European Company Statute. (i) Harmonisation Programme: It is questionable whether the Harmonisation Programme contributes to or inhibits the liberalization of FDI within the Common Market. As seen earlier, this Programme is criticised for its piecemeal fashion and its lack of a "European outlook". A blocking effect of the harmonisation process could become real if the law would not follow business practice. This could be caused by the cumbersome process31 by which the Council adopts 29 Art. 2, Art. 8 A as inserted by Article 13 of the SEA, White Paper, supra Introduction, note 5, pt. 1. 30 see white Paper, supra Introduction, note 5, pts. 133-42. 31 The harmonisation of company laws is implemented, through directives of the Council issued on a proposal by the Commission after consultation with the Parliament and the • Economic and Social Committee. Pursuant to the SEA, Article 54(2) as. amended by Article 6(4) of the SEA and the new Article 149 as replaced by Article 7 of the SEA essentially.increases the role of the European Parliament in the process of the adoption of directives. 233- --jf directives and the slow implementation process of directives.32 It could be argued that deregulation offers a more efficient basis for cooperation of enterprises of different Member States. However, the quest for deregulation on a Community level carries the risk that restrictive control mechanisms could be established by Member States as they could maintain competence to regulate intra-Community FDI.33 This could contradict the basic idea to remove internal barriers to achieve complete liberalization of trade and investment and to confer to companies the flexibility they needed to gain the most effective utilization of resources. Moreover, substantial alignment of conditions has been reached by the Directives concerning the harmonisation in the field of standardisation of accounting systems, of equal treatment of branches and subsidiaries, and of conditions to facilitate cross-border mergers.34 These areas are of great relevance to EEC-investors and establish a level playing field for enterprises of different Member States. (ii) European Company Statutes -In addition to the Harmonisation Programme, the Treaty provides for the regulation of companies on a supra-national 32 see CCH, CMR, para. 98.346: The EC Commission expressed its anxiety over tardiness of Member States in implementing Directives in national laws'as of September 6,1989. 3: 34 see K. van Hulle, supra Chapter 1, note 58, at 21. see supra Chapter 1, section IV.1.1. 234-level. Under Article 235 of the Treaty35 the EEIG and the European Company Statute were adopted and proposed respectively. The European Company Statute provides investors with the most flexibility and legal certainty to enhance FDI since the EEIG falls short of covering cross-border mergers. The Statute constitutes a comprehensive legal framework which covers most areas of company law and establishes simultaneously the possibility to refer to the Member States' national company laws. It offtrs the advantage to enable EEC-enterprises to establish themselves in other Member States without losing their legal status, as opposed to the status under national company laws which apply the real seat theory. Since the Statute keeps it open to EEC-companies to choose their status under its scope or under national company laws of any Member State it leaves sufficient room for competitive models to develop under its broad scope. As a supranational law, the Statute is legally binding in Member States and furnishes a framework to facilitate the cooperation of enterprises which prevents adverse effects on the flexibility of companies caused by divergent national company laws. 6.1.2. Preservation of Diversity under the FTA To the contrary, such cooperation or harmonisation is not 35 The Council acting on a proposal of the Commission is empowered to take appropriate measures with respect to the cooperation of enterprises. foreseen under the FTA. Each party remains free to introduce or maintain a different regime and set of standards from those the' other party nay establish, As far as FDI activities are covered by the National Treatment Principle, these rules just need to be applied equally to Canadian-owned and U,S.-owned firms. The argument could be made that the preservation.of diversity as laid down by the FTA could create the same benefits in an economic integration as the harmonisation of laws pursued by the Treaty. There are strong voices suggesting that preserving diversity instead of co-ordination beyond a bare minimum is compatible with the reaping of benefits in an economic integrated area and that the harmonisation of laws is simply not necessary.34 Briefly summarized, the reasoning is that sovereignty and independence can be maintained. However, there are costs associated with this, such as the burden of the country's institutional and legal sA-up. The foreign exchange rate will show an equilibrating movement in competition with other societies with lighter burdens. This provides the nation with a free choice but at higher costs. . It is acknowledged that economies of scale may have to be 36 V. Curson Price* Free Trade Areas, The European-Experience (Toronto: C.D. Howe Institute, 1987) at 53; R.J. Wonnacott , supra Chapter 4, note 8, at 12-13; see for further detail H.G.. Johnson et al. Harmonization of National' Economic Policies under Free Trade, Canada and the Atlantic Economy 3 (1968) (Toronto: University Press for the Private Planning Association of Canada, 1968). 236-sacrificed37 However, to achieve economies of scale was one of the predominant aims the U.S. and Canada wanted to achieve under the FTA.38 Moreover, the basic principle of this loose form of economic integration is the acceptance of free competition as a method for weeding out economic inefficiencies and promoting efficient innovative structures in the economy. Instead, the FDI regulation under the FTA does not abide by a system of free competition but maintains a large variety of control mechanisms. The Community could also be criticised for not adhering to a completely free regime of competition. However, it overcomes this deficiency by providing a binding legal framework facilitating cooperation between enterprises of different Member States and eliminating the impediments to FDI. It is submitted that the Treaty as amended by the SEA provides therefore the more efficient regime to liberalize and promote FDI. 6.2. Mergers and Acquisitions While the Treaty establishes a supranational instrument to restrict the Member States' national competence in the field of competition law and confers wider powers to,the Community, the FTA clearly expresses its position to preserve distinct 37 38 ibid. .•••.-••..••••..•.'••.•,..••. see discussion supra Chapter 4, section II.l. 237 ~ -jr industrial policies.39 6.2.1. Divergent Antitrust Policies under the FTA The FTA explicitly covers intergovernmental consultation patterns about the designation of monopolies and about the restrictions on government created monopolies. Article 1604 provides for confidentiality of information submitted by American and Canadian investors to the extent that its publication could impinge on the competitiveness of their investments which is similar to the Common Market provision under the Merger Control Regulation.40 A potential harmonising impact of the FTA on the delineation of the relevant market in both nations is expected to emerge over time.41 A statement by the DOJ indicates that the U.S. government will take into account the impact of the FTA in order to determine extraterritorial jurisdiction.42 Also, a recently passed bill under the NCRA on a simple damage award against manufacturing joint ventures, excluding ventures where foreign 39 FTA, Preamble to Chapter 16, para. 3: "... . Both Governments are completely free to regulate the ongoing operation of business enterprises in their respective jurisdictions under, for example; competition law, provided they do not discriminate." 40 Regulation No. 4064/89, supra Chapter 3, note 3, Art. 20(2) stating that the publication of decisions shall have, regard to the legitimate interests of undertakings in the protection of their business secrets. 41 .. see G. Addy. Free Trade Law Reporter. supra note 1, at 25,012; J.T. Kennish, supra Chapter 4, note 132, at'481-83; C.S. Goldman, supra Chapter 4, note 108, at 408-09. 42 Guidelines, supra Chapter 4, note 133, at 21,596. 238-participants controlled more than 30 percent of its business, provides Canadian investors with the equivalent benefit.43 However, at its present stage, the FTA does not include any commitment to the harmonisation or standardization of the-antitrust or competition laws of the two nations and divergent competition policies of both nations continue to apply. Consequently, investors of the two countries encounter multiple curbs to direct investment activities in each others kerritory. The FTA is silent on the issue of private treble damage actions. The likelihood that Canadian prenotifieation provisions of the Competition Act may be used as a tighter screening mechanism than the review practice exercised undsr the ICA is rather great. Since the FTA's dispute settlement does not apply to competition issues relating to acquisitions wargers , further impediments to FDI result from the unpredictability and broad discretion both nations' authorities aan ewsrcise in thei?? decisions. Also, American style discovery is unlikely to improve the FDI climate without a coherent framework wfeifth both parties see supra Chapter 4, note 191. 44 see FTA, supra note 2, Chapters 18 ai»4 .:&•&„ Chapter 18 deals with dispute settlement related to investments .. . S'he • provision obliges the parties to make every attempt to. sialic • panellists who are experienced and competent in the tfiold tsf . international investment, and that the panel has to tsfca into account internationally recognized rules for commerciij arbitration. Article 1608:4 of the.FTA. As regards direct investment issues not covered by the FTA, the parties aftd-t}je. investors of each party retain their rights under curator;-'.•,'.>• international law. Chapter, 19 only deals with issues arising from anti-dumping and countervailing duties. 239 -jr and their investors can rely on. The FTA does not tackle the issue of extraterritorial jurisdiction, a long standing source of conflict between the parties. Although the rigid! ;.y of antitrust enforcement weakened under the Reagan administration,45 potential investors still have to face the difficulty to operate under the impediments caused by the application of two divergent competition laws when moving to the other party's territory. Moreover, Canadian subsidiaries of multinational corporations located in the U.S. remain subject to U.S. antitrust laws. These subsidiaries are confronted with the situation where their business conduct would be permitted under Canadian competition law but might be prohibited as anti-competitive in the U.S. Considering the two partieslargely divergent policies with respect to concentrations, extraterritorial jurisdiction of the U.S. which resulted in the adoption of blocking laws on the Canadian part, clearly impinges on the free flow of FDI. As a consequence, national controls, legal uncertainty, and long litigation procedures burden the investment climate. 6.2.2. Coherent Application of Merger Control under the Treaty In contrast, the Treaty as amended by the SEA explicitly establishes a coherent application and standardization of criteria to appraise the compatibility of Community concentrations with the Common Market objectives. .This brings 43 see supra Chapter 4, section IV.5.2.1. 240-more equality to the business society in the EEC. The Merger Control Regulation provides a review mechanism on Community level for large mergers within the Community and determines when an undertaking has to deal with the Commission or with the national authorities. Its scope also covers restrictions directly related and necessary to their implementation, such as non-competition clauses or licensing and supply agreements establishing a coherent practice of control of concentrations on Community level. Investigation and enforcement measures are also clearly defined and coherently applicable. A precise time schedule for proceedings can prevent unnecessary delays and legal uncertainties for potential investors. The only exceptions made to the Commission's competence to appraise Community 'mergers are limited to narrowly determined markets44 and to the protection of legitimate interests of Member States relating to public security, plurality of media and prudential rules.47 Remaining legal uncertainties on the appraisal of not specifically mentioned situations can be eliminated through continuing issuance of further guidelines, their-application by the Commission48 and the establishment of a consistent case law by the ECJ. Although, the Merger Control Regulation will cover only 46 see supra Chapter ;3, note 88. ' 47 . Art. 21(3) of Reg. .No. 4064/89, supra Chapter 3, note 3. . ' • • ' ' ' • • . • , ' • • . • « see Siemens Nixdorf Informationssysteme AG, supra Chapter 3, note 68. 241-about 50 of the largest Community mergers, it is a step towards a coordinated regime of merger control throughout the Ccrnmon Market since to date the high thresholds are subject to further amendments. It provides on the one hand that the anti-competitive behaviour of undertakings which are parties to a concentration within the Community is controlled,49 and on the other that potential investors are provided with the predictability needed in order to avoid commercial and financial disadvantages incurred by the delay of effectuation or the uncertainty of legal status of mergers in case of long lasting proceedings. Through the adoption of the Merger Regulation the-. Treaty takes into account that through the harmonisation of company laws and the completion of free movement of capital transactions, EEC-companies will increasingly enter into mergers, take-overs or other forms of concentrations. The economic interdependence enhanced by the FTA on the one hand, and the divergence of antitrust and corrpetition enforcement policies on the other, is, as opposed to the EEC, not dealt with under the ETA. Instead of a cooperative regime of competition, the parties to the ETA continue to seek to overcome their divergent competition policies through a confrontational battle. It is submitted that FDI activities are not only more 49 see also the discussion by Prof. M. Porter 'in "Europe's Companies after 1992: Don't collaborate, compete", The Economist, June 9, 1990, 17-19. ' 3 242 "I profoundly liberalized under the Trei >.,./ than under the FTA, but in addition, FDI is more effectively promoted since the Comaon Market provides an efficient legal framework for EEC-investors to place and operate their direct investments freely throughout the Community. 7. Constraints on Sovereignty 7.1. Transfer of Sovcreisn Riahts under the Treaty Through the transfer of the Member States sovereign rights to make law in specific areas related to FDI to the Community, the Council is enpowered to issue secondary Community legislation. Through this process the Commission, the Community's executive organ, received the competence to implement a coherent practice on FDI liberalization throughout the Common Market. The Treaty's provisions are bestowed a binding impact or Member states prohibiting the application of discriminatory national laws. Consequently, Member States are restricted in their competence with respect to FDI regulation by the Treaty as follows: (1) National governments cannot introduce or maintain discriminatory measures' to prevent companies and nationals from other Member States to establish themselves in their 243-establishment became directly effective by the end of the transitional period in 1970. As regards harmonisation of national laws Member States must implement the purpose of any harmonising directive issued by the Council. The national governments only remain free to choose the method of implementation. The provision of Article 235 of the Treaty to adopt supranational law, i, a, the EEIG and the European Company Statute, can restrict Member States in their sovereign rights to regulate the establishment and operation of companies from other Member States to an even larger extent since these Regulations are directly applicable in Member States upon adoption by the Council. (2) Member States have to implement the objective of ful! liberalization of capital movement pursuant to Directive No. 88/361. National governments are prohibited from introducing or maintaining not only restrictions of capital movement under national foreign exchange and investment laws, but also frequently imposed measures, whereby financial institutions are required to assist national." authorities in the control of the nature of transactions' to ensure that they are lawful, only in case of serious balance of payment difficulties affecting the functioning of the Common Market or the common commercial policy, is a Member State entitled to be granted an authorization to introduce restrictions on capital movement. It has to be 244-noted that under the SEA initiative to completely liberalize capital movement, these authorizations were largely repealed and their requirements significantly tightened. (3) The coherent application of corrpetition rules with respect to large community mergers on Community level is based on the doctrine of supremacy of Community law and the binding effect of Council Regulations within the Member States. Member States retain the right to regulate concentrations only in cases that are not covered under Community law and where the concentration threatens to strengthen or create a dominant position which could distort corrpetition in an isolated market.50 The restrictions on national sovereignty can only be exempted Cor reasons of public security which is subject to a restrictive interpretation of the ECJ,51 7.2. Minimal Restraint of Sovereisn-tv under the FTA Within the U,S,-Canadian free trade area sovereign rights are only restricted to the extent required by the qualified National Treatment Principle. Both nations maintain their independent industrial policies, continue to exercise full with respect to' excluded sesstsaes e£ tetaic 50 see supra Chapter 3, section V.l. 51 see supra section 5.1., Chapter 1, section III.l. 2-45 and exceptions made to the national treatment obligation, provision exists requiring the parries to harmonise laws or to create a supranational body of law to govern FDI activities coherently throughout the free trade area. The two parties are free to apply their national laws. The restraint on Member States' sovereign powers provide greater legal certainty and restrict more efficiently impediment to FDI stemming from divergent policies and laws of several nations. It is submitted that the comparison of the liberalization of FDI realized in the Community with the one achieved under the ETA demonstrates that the degree of FDI liberalization rises in proportion with the transfer of soverei^i powers, 8. individual Sights 8.1. Riqhts Granted under the Treaty The Treaty and to a Aetespe extent ±fe« iwpi«fwsnfeiwg legislation has not only a direct and immediate impact upon direct investment activities within the Member States, but raoc©®war,, pt©vi«tes the ptivafee investor with individual , rigt&i: He can pursue his right of free establishment with respect to • • - --j-J 1 The same applies to conditions set out under the harmonisati<2®i directive's (if sufficiently spittle) anS ffl8¥§ment of capital to the extent 246-set out under the new Directive No. SS/361, Decisions on the approval of mergers pursuant to the Merger Control Regulation is also open to review by individuals, i,e, natural or legal persons. with the provision of individual rights under the Treaty, investors are entitled to address themselves to national courts when decisions of the commission violata Community law,52 Thus, the Treaty provides an efficient tool to eliminate restrictions on FDI and to realize its complete liberalization. 8.2. Deliberate Omission under the FTA In comparison, the FTA establishing a bilateral agreement between nations, only binds the national governments themselves. Consequently, the FTA does not confer individual rights to private investors. Article 1608 of the FTA merely endows the parties' governments with the right to pursue dispute settlements on direct investment issues. 9. Conclusions The comparison of the FDI regulation under the FTA 9"-1 t^e Treaty creating larger ecc7»omic areas by means of an international agreement demonstrates that the Treaty including the amendments incurred by the SEA consists of a broader coverage regarding-the liberalization of direct investment. The Treaty 52 see Arts. 177, 179 of the Treaty.' •'•"--' *•-• - -' * - — -*- " . *!'• — ^ ' ' • - - " - .—-•-•- • . . • . • at 247 provides a more fundamental liberalization in the sense that it imposes an obligation of complete abolition of discriminatory national laws and practices on Member States and provides simultaneously for the harmonisation of national laws. In contrast, the FTA deliberately abstains from such ambitious objectives and restricts itself to the liberalization of FDI by limiting and eliminating specific restrictions and imposing selected obligations on the parties. Any form of harmonisation or standardization of national laws or the creation of an institution controlling concentrations of undertakings which could constrain governmental powers of the parties, with the exception of the designation and operation of monopolies, falls fully out of the scope of the ETA. Full liberalization of FDI is not achieved due to the abundance of control mechanisms maintained under the Agreement. It is submitted that the emphasis put on the interdependence of the Member States' economies generates a more profound FDI liberalization. The constraints imposed on the governments' sovereign rights and the provision of individual rights promote complete non-discrimination and improve rational exploitation of economic resources and the increase of competitiveness and economic growth. The FTA leaves too much room to maintain or even introduce protective measures of one party vis a vis the other ensuring the parties with a minimal restraint of their sovereign powers. The FDI regulation under the FTA leaps behind the degree of 1409 _ r liberalization achieved in the "internal market" of Europe 1992. XV. RECOMMENDATIONS There may be some lessons to learn from the process of liberalization made in the Community for future negotiations on the modification or addition to the FTA, as provided by . its Article 2104:1. T'hf; furthering of FDI liberalization gduM :be implemented under the Agreement through the adoption of complete non-discrimination through broader national treatment obligations and a full rollback of existing restrictive measures. In addition, the establishment of a legal framework with respect to competition policies could positively affect the FDI climate without neglecting national interest to a degree where it could ' have an adverse impact on the parties political and economic interests. 1. Decrease of National Restrictions .In order to implement the recommendations just described the Canadian and American position on the maintenance of sovereignty, i,e, the continuing application of restrictive laws and regulations to FDI based on cultural conditions for Canada and on national security reasons for the U.S., would have to be reconsidered, When looking at the impact of supranational law and institutions created by the sovereign Member States under the 249 _ Treaty, the restraint of national sovereignty in fields related to FDI appears necessary to eliminate the impediments to FDI due to national laws and regulations. Thus, the broader the scope of the transfer of sovereign powers the more profound will be the liberalization of FDI. As mentioned above, the Treaty provisions' binding impact on discriminatory national laws of the Member States and the implementation of coherent Community practice with respect to merger control, right of establishment, and capitai movement were only possible because of the transfer of sovereign rights. Since the ETA does not foresee any proposition to this end, but to the contrary, provides for the maintenance of ample restrictions to FDI, i*vinvestment creating effect is necessarily of a smaller degree. In particular, the Canadian concern of being bought out and becoming an "American branch" objects to a transfer of sovereign rights to a supranational body of law. However, this concern Seems to be unwarranted. As pointed out earlier, Canadian FDI in the U.S. superseded U.S. FDI in Canada in relative terms over the last 10 to 15 years.53 It is also submitted, that tha fear of the Canadian people to lose cultural identity because of enhanced FDI from ^ e U.S. is unfounded. Economic integration between Canada and the U.S. is an ongoing process due to the geographic closeness of their markets, 'their distance from other world markets, and their 53 see supra Chapter 4, note 21. 250-jr common language. Economic and social integration was and continues to be unavoidable due to the fact of being each others closest neighbour. This does not necessarily mean that cultural identity will be lost when creating an efficient way in order to reap the benefits of such integration. Looking at over 30 years of economic and political integration of the Community an actual assimilation of cultural divergencies of its members can hardly be assessed. Certainly, the argument cannot be dismissed that the European Member States are genuinely more distinct in their socio-economic development from one another than the U.S. and Canada. However, the integration pursued under the Treaty and the SEA is significantly wider and more fundamental since it aims at an economic union, whereas the integration sought under FTA creates the loosest form of economic integration. The former requires complete economic integration and broad political interdependence, while the latter demands only a minimal degree of coordination, excluding labour and capital and any form of commonly applied trade policies toward third countries. Nonetheless, exceptions for reasons of national security should be respected. However, national security should be interpreted restrictively. Thus, measures like the Exon-Florio provision, whereby the U,SPresident was empowered to halt a foreign' acquisition of control over a U.S-- enterprise, should be excluded as this provision could hardly be considered as an indispensable means to protect the U.S. ' interests.54 national security 25L-2. Increase of Legal Certainty A unified law reduces legal risks of international business promoting greater predictability and security55 which is highly relevant for FDI liberalization. The provisions on Merger Control and a legal framework facilitating the cooperation of enterprises form the basis to create to some extent a uniform application throughout the Community. The FTA makes no provision to harmonise national laws. Therefore, FDI continues to be inhibited as long as the U.S. and Canada pursue greatly divergent national antitrust policies . As a consequence, the U , S .-Canadian free trade area lacks predictability and legal certainty which are two essential elements to promote FDI. 2.1 T.eaal Framework for Mersers and Acquisitions ..Legal certainty could bt! increased through standardisation of competition laws under the FTA. As seen earlier, due to the FTA, a harmonising impact on the delineation of the two markets which may result in commonly used criteria for the determination 54 see supra Chapter.4, section IV.2.4. , notes 91-93, in particular M.M. Brown, note 92 at 87. , • 55 K. Zweigert, H. Koetz, supra Introduction, note 18, at-20-21, of the relevant market is expected. However, the mere standardisation of certain criteria of approval cannot be perceived as sufficient to virtually liberalize FDI. 252 _ As long as each country pursues divergent national economic interests a different exercise of discretion applied by both nations competent authorities in compliance with each nation's policy will be the outcome. This will, in turn, result in different conclusions even in cases where these conclusions were based on similar facts. For example, in a recent merger case56 two private companies were faced with concurrent and potentially conflicting views as to which nation's law should properly apply to a proposed merger with predominantly Canadian, but some American, contacts and effects, and with the likelihood that each nation's officials reaching a different decision, though applying similar standards, but drawing different conclusions about the relevant facts.57 To prevent these conflicts, one might agree to the position that the parties should consider three major goals: - standardization of the national antitrust laws ©f the parties; ^ This case involved the proposed sale by Versatile to John Dee.re of a Canadian plant producing four-wheel drive tractors. /••..'•. 57 see D. E. Rosenthal, supra Chapter on FTA, note 149, at-495-96. ' i f : ! 253 --i I - institutionalization of mechanisms to ensure cooperation in the enforcement of the national laws to trans-border I violations; - creation of a supranational body to arbitrate disputes or | to enforce an international antitrust law which embodies the same principles as are contained in the national laws of the parties.58 To be more specific, the establishment of a legal framework establishing a minimal level playing field including standardization of appraisal criteria, prior notification I requirements, provisions for the parties to refer to a supra-national body endowed with powers of investigation and | enforcement, and a precise time schedule for proceedings should be considered to further the liberalization of FDI between the parties. Such regime could achieve three purposes. First, the transfer of what are actually state action disputes to private adjudication could finally be eliminated. Second, a congruent competition law enforcement throughout the U.S.-Canadian free trade area could be implemented. And third, this could provide greater legal certainty and predictability for potential investors and -facilitate direct investment across the border. i 58 see J. Davidow, supra Chapter 4 n o t e 136, at 26. i • T * *V« ' Jt„ ., I,v. "» ) . , t t. . 1 » * v..„ iJ. ..{.,.,..',„, .,.<. 254-2.2. Legal Framework for the Cooperation of Enterprises Similarly to the just described proposal on competition rules, the creation of a loose legal framework to set up companies in each others territory could Be worthwhile considering. This framework should provide investors with the choice to assume their status under such frame or under national laws. It could facilitate the movement of companies in the U.S.-Canadian free trade area since investors could avoid legal uncertainties inherent in the establishment of a company under different legal systems. Nonetheless, it has to be pointed out that a different approach under the agreements may be justified. The legal and socio-economic facts are less divergent with respect to national company laws between the U.S. and Canada than between the ESC Member States. 3. strengthening of Political Will The Chapter on direct investment under the FTA shows clearly the lack of political will to virtually liberalize FDI.when . compared with the declared political will under the SEA initiative of the Member States to fully liberalize investment and trade. The Treaty, already by its very nature as a multilateral agreement, requires a stronger political will than the FTA which constitutes a bilateral agreement. While the former requires that multiple interests have to be levelled out in order to reach a common solution, the latter simply needs a compromise between two parties. The text and structure of the FTA itself provides for the maintenance of restrictive FDI policies with respect to cultural, energy and transportation industries. The parties' limited political interest is also illustrated in the maintenance of the application of existing discriminatory laws and regulations against investors of each party having either a prohibiting or a chilling effect on FDI. Moreover, the fact that the Exon-Florio provision was1' adopted by the U.S. Congress shortly before the entry into force of the FTA, and thus coming under the grandfather clause, manifests quite evidently the lack of political will to refrain from protectionist measures with respect to foreign ownership. When Prime Minister Brian Mulroney announced on October 5, 1987 the conclusion of the FTA, he stated: I think this initiative represents enlightened leadership to the trading partners about what can be accomplished when we determine that we are going to strike down protectionism, move toward liberalized trade, and generate new prosperity -€or all our people.59 ... . . ' • • ' However, to date this determination to move toward liberalization of FDI appears rather tenuous in comparison with the European initiative. If the parties were really ambitious to liberalize FDI under the FTA, they first would have to strengthen their 59 1986-87 CAN. PARL. DEB., H.C., 33d Pari., 2dSess. 9633. . •.:'•.••..•• 256— -political determination to "strike down protectionism" in this field. Credit has to be paid, though, to the adoption of the FTA itself as it demonstrates the recognition of the two parties and in particular, of the Canadian government that an "island mentality" is not compatible with enhancing economic prosperity in the international trading system. The implementation and promotion of this position in future negotiations under the FTA should be considered as a welcome process. CONCLUSION If the FDI Chapter under the FTA was really meant to be a pathbreaking step in the development of international, rules to guide government policies in areas that have not been subject to extensive international disciplines,1 it would have to implement a more profound liberalization of FDI. This could be achieved through the coverage of the full range of economic sectors. In addition, the regulation of FDI should adhere to a system of complete, non-discrimination dismissing , the careful safeguard of all existing discriminatory measures and the ample provisions admitting differential treatment. The Treaty as completed by the SEA could provide some guidance as it establishes a fully integrated market where intra-Community FDI is profoundly liberalized. This liberalization is predominantly achieved through a considerable restraint of sovereign and private rights, the implementation of complete non-discrimination, and the harmonisation and approximation of national laws of its members, _ / There may be some criticism on the liberalizing effect of FDI activities of EEC-companies with respect to the Harmonisation Programme. However, the harmonisation directives under this Programme established a level playing field which is a step in 1 J.J. Schott, supra Chapter 4, note 12, at 3; F. Stone "Relationship to the GATT", Real story, supra Chapter 4, note 20, 171 at 178. ' 258--ZT the right direction. Moreover, the European Company Statute created an efficient framework for the cooperation of enterprises through supranational regulation. It established a comprehensive instrument to attain predictability and simultaneously provided for broader liberalization. Direct investment was further liberalized through the adoption of Council Directive 33/361 as it abolished all restrictions on capital movement within the Community. Since it is impossible to conduct any kind of business activity without the possibility to have access and to dispose of the necessary capital, the full liberalization of capital movement under this Directive furnished the indispensable element to complete the riyht of establishment and promote FDI. This process of FDI liberalization was finalized by the adoption of a merger control mechanism on a Community level. It struck a balance between the interests of potential investors and the objective to maintain an effective regime of competition because it limited not only governmental but also, private restrictions. A coherent arid comprehensive liberalization of direct . investment within the Community is provided through the transfer of parts of sovereign powers of the Member States to Community institutions. To the contrary, the FTA does not grant a right'of astablishment and constitutes a more selective approach towards • 259-FDI due to numerous exemptions and a prospective epplication of the National Treatment Principle.2 It may hardly be considered as a virtual liberalization of FDI between the parties. Instead, the result of the FDI regulation could, be criticised for putting too broad emphasis on the national interests of both countries3 rather than on a beneficial framework with the objective that investment flows more freely between the parties.4 Thus, it was obviously in the interest of both nations to outright exclude transportation and cultural sectors from the application of the FTA. Also, the ICA increase of the thresholds from CDN $ 5 million to CDN $ 150 million for direct acquisitions and the phasing out for indirect acquisitions reflect the settlement of a particular conflict area between the parties. It was one of the U.S. key objectives to obtain these concessions to avoid a revival of the investment policies introduced under the Trudeau government. In the same line falls the prohibition of performance requirements. This U.S. concern which was a source of constant irritation was accommodated by introducing Article 1603. However, this Article merely covered import and export requirements. The regulation of crown corporations illustrates again the incorporation of a specific interest of one of the parties, in this case the Canadian government. The option to see Art. 1607 of'the FTA. see FTA, Chapter 16, Para. 1, second sentence of the ibid. 2 3 Preamble. 4 control even future privatization of crown corporations through the limitation of foreign ownership, at least with respect to the initial acquisition of such corporation, maintains an important control mechanism for Canada. In brief, the FDI regulation may be described as a rushed bilateral settlement of the most vexing investment issues between Canada and the U.S., rather than a comprehensive regulation to virtually liberalize FDI. Despite the fact that the two agreements share more divergencies than similarities, the recommendations made above should be worthwhile some consideration to further the liberalization of direct investment within the U.S.-Canadian free trade area. It is submitted that, if Canada and the U.S. wanted to implement free trade including the field of FDI, they should put stronger emphasis on the idea that trade is mutually enriching rather than war. They should dismantle the multiple instruments to protect national interests in order to achieve a truly free flow of investment. This does not require uniformity and the sacrifice of cultural heritage but rather a framework which provides investors with more flexibility and legal certainty. 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Case 203/80 [1981] ECR 2595 East et al. v. Cuddy, Eur. Ct. of J. Case No. 143/86 [1988] C. M. R. para. 14,444 Eastern R.R. Presidents Conf. v. Noerr Motor Freight, Inc., 365 U.S. 127 (1961) Europeniballage Corporation and Continental Can Co. Inc. v. Commission, Eur. Ct. of J. Case No. 6/72 [1973] ECR 215 Firma-Gebrueder Luck v. Hauptzollamt Koeln-Rheinau, Eur. Ct.. of J. Case No. 34/67 [1968] ECR 245 Flaminio Costa v. E.N.E.L., Eur. Ct. of J., Case No. 6/67 ECR [1964] 1141 General Motors of Canada, v. City National Leasing et al. [1989] 1 S.C.R. 641 Grad v. Finanzamt Traunstein, Eur. Ct. of J. in Preliminary Ruling No. 9170 ECR [1970] 825 Laker Airways Ltd.. v. Sabena, Belgian World Airlines, 631 F 2d. 909 JD.C. Cir. 1934)) 271 _. . . . Luisi and Carbone v. Minestero del Tresero, Eur- Xt. of J. Case 236/82 and 26/83 [1984] ECR 377 Metro SB-Grossmaerkte GmbH & Co. KG v. Commission, Eur. Ct. of J. Case No. 26/76 [1977] ECR 1875 Pfizer v. Gov't of India, 434 U.S. 308 (1978) Pubblico Ministero v. Tullio Ratti, Eur. Ct. of. J. Case No. 148/78 [1973] ECR 1629 Re French Merchant Seaman, EC Comm. v. France, Eur. Ct. of J. Case No. 167/73 [1574] ECR 359 i. Re Uranium Antitrust Litigation, 617 F 2d 1248 (7th Cir. 1980) Regina v. Thompson, Eur. Ct. of J. Case 7/78 [1978] ECR 2247 Reyners v. Belgian State, Eur. Ct. of JV Case No 2/74 [1974-5] ECR 631 Rocois Construction Incorp. v. Quebec Ready Mix [1985] 2 F.C.40, [1990] 2 S.C.R. 440 Segers v. Bedrijfsvereniging, Eur. Ct. of J. Case No. 79/85 [1986-7] ECR 2375 Tasty Baking Co. v. Ralston Purina Inc., 1987-1 Trade Cas. (CCII) Timberlane Lumber v. Bank of America, 549 F 2d. 597 (9th Cir. 1976) United Mine Workers of Am. v. Pennington, 381 U.S. 657 (1965) United States v. Aluminium Co. Of America, 148 F 2d. 416 (2nd Cir. 1945) United States v. Topco Assocs., 405 U.S. 596 (1972) Van Dyn v. Home Office, Eur. Ct. of J. Case No. 41/74 [1976] ECR 1337 Variola S.P.A., Fratelli v. Ammistrazione delle Finanze dello Stato, Eur. Ct. of J. Preliminary Ruling No. 34/73 ECR [1973] 981 Wat Wilhelm v. BKA, Eur. Ct. of J. Case No. 14/68 [1969] 8 CMLR ' 100 •.. : • • • • • . • • • 

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