Daniel N. Adams, Back to Basics: the Predestined Failure of Nafta Chapter 19 and Its Lessons for the Design of International Trade Regimes

COMMENTS

BACK TO BASICS: THE PREDESTINED FAILURE OF NAFTA CHAPTER 19 AND ITS LESSONS FOR THE DESIGN OF INTERNATIONAL TRADE REGIMES

INTRODUCTION

Canadian House of Commons member Peter Julian described it as "a complete punch to the stomach . . . a shock."¹Trade expert Gordon Ritchie called it "a bribe to bring peace to the industry."²Trade lawyer Elliot Feldman dubbed it a "historic, unprecedented, astounding intrusion into American politics."³When compared to other pressing items on the political agenda, few would expect softwood lumber-the fibrous material used primarily in home construction-to inspire such provocative and confrontational language.⁴Yet, these quotes were all made in reference to the 2006 Softwood Lumber Agreement-the accord between the United States and Canada that brought an end to the most recent chapter in the long-running North American softwood lumber dispute.

To appreciate how an agreement about wood could prompt such overt bitterness, consternation, and out-and-out antipathy among politicians and trade insiders, one must understand a little about the circumstances surrounding the deal. In 2001, arguing that the Canadian government was unfairly subsidizing the lumber industry, the United States levied duties on

Canadian softwood lumber imports.⁵Over the next five years, the United

States collected some five billion dollars in duties from lumber suppliers.⁶

Canada fought back, challenging the duties before North American Free Trade Agreement ("NAFTA") Chapter 19 panels-tribunals charged with reviewing and issuing a binding ruling on the legality of duties like those imposed on Canadian softwood. On three separate occasions, NAFTA panels found for the

Canadian position, holding that the orders were illegal.⁷These rulings were a clear win for Canada and, in theory, an end to the softwood lumber flare-up.⁸

However, on April 27, 2006, after months of stonewalling by the United States, the parties announced that they had come to terms on an alternative settlement.⁹The agreement permitted the United States to keep one billion dollars of over five billion dollars in duties that, according to the NAFTA panels, were illegally collected.¹⁰The agreement set aside $450 million of this money to be spent on "meritorious initiatives" at the discretion of the Executive Branch¹¹-a provision that was characterized by some as little more than a "slush fund"¹²or "escrow fund" for the Bush Administration.¹³

Moreover, the agreement effectively replaced NAFTA Chapter 19 with a new dispute resolution mechanism for issues related to softwood lumber.¹⁴

The deal was only the latest failure of Chapter 19 in the softwood lumber context.¹⁵The United States participated actively in the panel process, but resisted the oversight of the panels,¹⁶and when they reached unfavorable results, refused to comply with the rulings as required by U.S. law and NAFTA.¹⁷By most accounts, it was this resistance, along with the very real possibility that the United States could successfully drag out the litigation, that forced Canada to accept a settlement rather than insist that the United States honor its NAFTA obligations.¹⁸Ultimately, the United States retained one billion dollars in duties that, according to the NAFTA panels, it was not entitled to keep.¹⁹

This Comment analyzes the Softwood Lumber Agreement and the Chapter

19 process using the voice/exit framework introduced by economist Albert O. Hirschman²⁰and later applied in the context of the World Trade Organization by Professor Joost Pauwelyn.²¹Applied to mechanisms like Chapter 19, voice/exit analysis holds that if we are to expect nations to comply with an adverse trade ruling, the trade regime must offer these nations ample opportunity to shape the rules that led to that ruling.²²Developed as a temporary substitute for a long-term agreement on the proper role of antidumping and countervailing duties within the North American trade regime,²³the NAFTA Chapter 19 process offers comparatively few such opportunities for member nations to craft regime-wide policy on the application of AD/CVD law.²⁴Without a role in rule making, a member state is unlikely to comply with NAFTA panel decisions that are inconsistent with its policy preferences. Although structures like Chapter 19 have value in that they raise the likelihood of compliance by raising the reputational costs of noncompliance,²⁵ultimately these reputation costs are unable-as in the softwood lumber dispute-to prevent exit in the absence of adequate voice.²⁶

Using this voice/exit analysis, this Comment argues that U.S. noncompliance with the softwood panel rulings²⁷and, ultimately, the creation of the Softwood Lumber Agreement, were not merely foreseeable, but inevitable byproducts of the Chapter 19 design. Further, the voice/exit framework suggests that the success that Chapter 19 has enjoyed in other issue areas is not due to the effectiveness of Chapter 19, but rather to an underlying consensus between the parties on these issues-a consensus that might facilitate agreement on regime-wide rules that would eliminate the need for Chapter 19 litigation altogether. While Chapter 19 panels ultimately do help settle NAFTA policy, they do so at tremendous cost, both in terms of legal fees²⁸and damage done to the predictability and stability of the NAFTA regime in the case of the softwood lumber dispute.²⁹Ultimately, both sides were forced back to basics: finding a common ground that accounts for the political and economic realities on both sides of the border.

Part I provides a brief history of the development of Chapter 19, with an emphasis on its being a product of a disagreement between the United States and Canada on what role subsidies and antidumping and countervailing duties should play in the NAFTA regime. Softwood lumber was a key factor in the separation between the two sides. Unable to reach an agreement during the NAFTA negotiations, the parties deferred the matter to Chapter 19 panels, which would essentially set regime policy on these issues one case at a time.³⁰

Part II outlines the basic operation of the Chapter 19 mechanism, which permits nations to apply their antidumping and countervailing duty law to the exports of a NAFTA country. Disputes arising out of the application of these laws are reviewed by binational panels of experts, who are tasked with narrowly assessing whether the administering agency has correctly applied the law. Part III reviews the history of the Softwood Lumber dispute from 1983 through the 2006 Softwood Lumber Agreement, dividing the dispute into four periods. Part IV discusses the 2006 Softwood Lumber Agreement. Part IV(a) describes the reasons why Canada chose to settle rather than demand that the United States comply with the NAFTA panel rulings. Part IV(b) outlines the important provisions of the Agreement and describes its impact on the NAFTA regime.

Part V identifies why NAFTA failed and the broad implications of that failure. Specifically, NAFTA suffers from an "asymmetry problem"-member states have disproportionately low levels of voice in the policy-making process concerning antidumping and countervailing duty determinations. Without adequate voice, NAFTA parties can be expected to exit from rulings which substantially depart from their policy preferences. Where panel rulings are obeyed in spite of this lack of voice, voice/exit posits that underlying consensus-not necessarily the mechanism itself-is the cause for the compliance. In the case of the softwood rulings, a lack of voice and dramatically diverging opinions on how the Canadian lumber industry is operated led the United States to refuse to conform to the panel rulings.

Part VI calls into question the value of deferring matters of substantive trade policy to dispute resolution mechanisms like Chapter 19. Where panel rulings are disobeyed, the parties are forced back to the negotiating table, having spent months or years on fruitless litigation. Where panel rulings are obeyed, voice/exit suggests that there exists an underlying agreement on the issues which might have precluded the need for costly litigation in the first place. Ultimately, the parties to a trade agreement must reach some sort of consensus on regime-wide trade policy. This inherently political process may be "messy,"³¹but it is preferable to deferring to panels like those of Chapter

19. In the short term, deferring this policy-making process to an arbitral panel can help wait out a temporary roadblock in the negotiations or help speed along the negotiation process by setting aside unimportant or inconsequential issues. As illustrated by the softwood lumber dispute, however, deferring issues of fundamental importance to binding arbitral panels like those of NAFTA Chapter 19 is likely to compromise the predictability, legitimacy, and overall effectiveness of a long-term trade agreement.

I. HISTORY OF NAFTA CHAPTER 19

The flaws in the NAFTA Chapter 19 process have their roots in the negotiations for the Canada-U.S. Free Trade Agreement ("CUSFTA")-the predecessor to NAFTA.³²In 1985, Canadian Prime Minister Brian Mulroney announced the "need [for] a better, a fairer and a more predictable trade relationship with the United States."³³Canada's interest in reworking its trade relationship with the United States was twofold. First, when the CUSFTA was negotiated, over 75% of Canada's exports were destined for the U.S,³⁴comprising roughly 20% of its GDP.³⁵More importantly, Canada wanted to correct what it felt were "politically motivated protectionist decisions concerning the application of United States trade laws" on Canadian exports to the U.S.³⁶

The trade laws at issue are the U.S. antidumping ("AD") and countervailing duty ("CVD") laws.³⁷AD law provides for duties on imports sold or likely to be sold at "less than fair value."³⁸CVD law provides for duties on products which have been unfairly subsidized by the government of the country of origin.³⁹Before...