The Open Economy and the National Interest:
The Tug of War over the Multilateral Agreement on Investment
By Wolfgang Kasper

In April 1998, the  governments of the OECD countries decided to refer the proposed Multilateral Agreement on Investment (MAI) to ministerial negotiations, mainly to reconcile American and French differences about ‘cultural protectionism.’ Reports of the death of the important MAI initiative seem premature, however.

Negotiations at the OECD have over recent years aimed to create a multilateral and uniform framework for the free movement of capital, similar to what the General Agreement on Tariffs and Trade had done for free trade fifty years ago. The MAI negotiations have focused attention on the pervasive political and economic consequences of the dynamic growth of international capital mobility, and on the divide between cosmopolitan and xenophobic world views. These issues will not go away, and Australians will have to come to terms with them.

So far, the Australian debate seems to have been inspired mostly by the vehement attacks on the MAI by internationally-led single-issue groups that echo interest-group opinions on the Internet. It has been carried on by self-anointed political activists on the left and the right, who share a collectivist persuasion. A ‘Stop MAI’ campaign was formally launched (Wheelwright 1998) and former South Australian Premier Don Dunstan has written that the MAI will deprive us of ‘our right to intervene … to limit market place injustice’ (Dunstan 1998). Pauline Hanson has attacked the draft agreement with similar arguments (Hanson 1998).

It has variously been asserted that the government is secretly signing away Australia’s national sovereignty, that the MAI will undermine future economic growth, that it confers new privileges and rights to capital owners and multinationals to the detriment of the national interest, and that it will pave the way for ruthless international competition for investment dollars amongst governments. This, it is said, will only end up in a downward spiral of national standards of health, safety and labour regulation. Fears have also been voiced that local communities will be disenfranchised, that this will lead to new international conflicts (Gray 1998), and that less developed countries are likely to lose their sovereignty.
In June 1998, an Australian parliamentary committee submitted a first report on the MAI, concluding, in a rare assertion of parliamentary independence from a supercilious bureaucracy and overbearing ministers, that the Australian government should not sign the MAI in its present form.

If one views this debate in the context of long-term economic history, one can see that it marks a transition from a focus on the nation state and the national economy, which could be ruled by direct interventions, to a focus on the wide open, integrated global economy, in which governments are compelled to compete in providing support for globally competing jobs and in which individuals are being empowered vis-a-vis national governments (Naisbitt 1994). For this reason, the current MAI debate deserves attention.

Globalisation and Material Progress

It has always been advantageous for people in a community, region or country to draw on the capital, knowledge and enterprise of people elsewhere. The owners of local land and natural resources, government administrators and relatively immobile workers have always combined with mobile capital, knowledge and enterprise – which often come in bundles called ‘firms’ – to create new jobs and wealth. This is, for example, how the Australian colonies on the periphery of the world developed with amazing speed and vigour into one of the most affluent societies of the late nineteenth century. More recently, the costs of transport and communication have been coming down with unprecedented speed, so that capital is more mobile and can help more than ever before to spread useful ideas and concepts to distant corners of the world.

The mobility of capital and enterprise has always had two consequences:

(a)   It has added to the economic growth potential of the owners of local production factors. By helping to increase the economic cake, both local and mobile property owners have benefited.

(b)  When the owners of capital and enterprise are as well informed as they now are and when they can vote with their feet, those in control of immobile local labour, government and land have to act competitively in order to retain or attract capital and enterprise. In particular, they have to supply reliable legal and administrative rules that give mobile capital and firms confidence. Thus, the rulers of the small, open and competing European economies of the fifteenth to eighteenth centuries began to provide institutions, such as religious and economic liberties, and mechanisms for credible enforcement, which laid the basis for the industrial revolution and an ongoing, creative capitalist civilisation. Faced with capital mobility, the rulers volunteered to constrain their own arbitrary powers because they wanted a growing revenue base.

One might call this the ‘Eric Jones effect,’ after the scholar whose historic analyses have made this effect popular in recent years (Jones 1987). The institutional creativity did not spring from the enlightenment of the rulers, but their self-interest in revenue growth under conditions of an open economy. The byproducts of this interjurisdictional competition were the rule of law, property rights, the freedom of contract and constitutional government, while closed economies – such as Russia, Spain, and China – retained despotism and arbitrary rule.

Over recent decades, the small, exposed countries of East Asia repeated the historic European experience. Their rulers began to compete by institutional innovation to attract multinationals, so as to promote growth – again not out of  love for liberty or capitalism, but to enhance the revenue base and national security. The ‘Eric Jones effect’ is now even at work in China and Vietnam. More recently, institutional evolution in Asia has failed to keep pace with economic developments. As a consequence, many East Asians have been given a painful reminder that, nowadays, the effect works rapidly and massively.

International flows of capital – and in particular direct investments1 – have been growing rapidly and been the motor of economic and technical development, first among the old industrial countries and now also for a growing number of new industrial locations around the globe. The progressive worldwide liberalisation of international trade, payments and investment has been combining with enormous cost reductions in transport and communications, peace among the core countries of the global economy and the emergence of a shared, global business culture to pave the way for progressive global interaction. Between 1972 and 1996, the world’s direct foreign investments have grown from less than US$25bn to $350bn per annum (at an average of 12·2% each year!), bringing massive job creation to recipient countries. Profits are now often reinvested in the host countries, and are then recorded as further capital inflows. Capital owners are now increasingly loath to place all their eggs into one national basket, exposing themselves to the blunders of just one government. As a consequence, most countries around the world are now ‘being taken over by foreigners.’

Before the late 1960s, Australia had maintained an open door to foreign investors. It was shut when Liberal Prime Minister John Gorton reserved the government’s right to prevent foreign takeovers that politicians or their advisers might consider contrary to the national interest – always of course assuming that they can know what the national interest is! In 1972, the Whitlam government introduced a Foreign Takeovers Bill which became law in 1975 imposing formal controls on direct foreign investment in Australia and creating a new agency, the Foreign Investment Review Board (FIRB) (Kasper 1984: 40-43). These interventions reflected the demands of trade unions and the ACTU and echoed wider nationalist and socialist sentiments of that era. The Fraser government changed the policy implementation somewhat, because the Whitlam controls had led to capital flight, but the Act was retained.

Since then, the operations of the FIRB have been changed frequently, often by ad hoc political decision. They have been repeatedly liberalised under the impact of the ‘Eric Jones effect.’ Most applications to invest here are nowadays approved, although sensitive sectors considered strategic by the policy makers of the day, such as banks, the media, communications, transport and large real-estate holdings, are formally restricted. However, the intricacy and constant changes of the rules has led to a lack of transparency. Many potential foreign investors simply will not incur the compliance costs of applying for the privilege of setting up activities in Australia (Kasper 1984).

Standardising Rules on Foreign Investment

Since 1948, international trade has been based on the uniform and successful institutional system of the General Agreement on Tariffs and Trade (GATT), which has been successful in averting the trade wars of the 1930s and in making international trade an engine of global prosperity. By contrast, international capital flows have been governed by numerous confusing bilateral agreements, on latest count, some 1,630 bilateral government-to-government agreements (OECD 1998: Preamble). The system is full of contradictions and inconsistencies, which have led to numerous unforeseen and deleterious side effects.

This is why there have long been efforts to create a simplified, shared body of rules which can be understood easily by investors. These efforts have centred on the OECD, mainly because OECD countries dominate global investment flows, both as source countries (85% of global outflows) and hosts (60% of inflows). As far back as 1961, OECD member countries committed themselves to progressively abolish restrictions of capital. Gradually, the benefits of these efforts became evident (OECD 1982; Kasper 1984). Some countries, for example Thatcher’s Britain in the late 1970s, unilaterally abolished most controls of international capital flows and disbanded the regulatory agencies that implemented them. The subsequent rejuvenation of the British economy owes much to the influx of foreign capital and enterprise, as Britain captured a large share of the foreign investment in Europe. Sterling strengthened, and unemployment gradually dropped as the new openness stimulated the cultivation of competitive advantage.

In the course of the Uruguay Round on international trade, attempts were made to extend the spirit of free trade to international capital flows. The OECD was given the task in 1995 of creating a uniform, multilateral institutional framework for international investment flows. This led to a draft Multilateral Agreement on Investment (OECD 1998)2 and identified remaining political problems.

The MAI has a wide scope, covering both the act of investment and the capital stake being held in foreign jurisdictions. It proposes to protect not only portfolio and direct investments by foreigners, but also real-estate acquisitions and rights under contract. It will constrain the scope of intervention through legislation, regulation and administrative practice by central, state and local levels of government.

The draft MAI is strongly inspired by the principles of free trade:

(a)  Signatories will be bound to extend favours granted to citizens of one nation automatically to all in the ‘MAI family.’ This ‘most favoured nation clause’ amounts to a prohibition of political discrimination between the citizens of different MAI countries. It is based on the time-tested insight that such discrimination only creates conflicts and leads to deleterious and impossible-to-foresee side effects.

(b)  A second key principle of the MAI is that member governments must treat foreign investors no less favourably than national investors. Indeed, private investors are given a right to take violating government agencies to court. The ‘national treatment rule’ means that foreign investors will have a credible commitment that no future discriminations will be implemented against them, simply because they are foreigners.

(c)  All investment rules must be made publicly available, so that secret deals with particular investors are no longer possible. The transparency of FIRB operations will be correspondingly enhanced.

(d) MAI members also guarantee full currency convertibility to investing capital-owners from other MAI countries, which rules out payments controls of the sort widely practiced in the post-war period (and in Australia until the early 1980s). In practice this is not a great concession, since money now travels around the world by wire and governments have lost control anyway.

(e) Further, MAI signatories cannot impede the entry and temporary stay of key managers or skilled technicians needed for a foreign investment project.

(f) MAI governments will no longer be able to make foreign investment approval conditional on export targets, local content or similar interventionist demands, nor will they be able to expropriate foreigners without prompt and full compensation.

The MAI encourages dispute resolution by government-to-government consultation. But it also provides a binding arbitration procedure between governments, as well as between foreign investors and host governments. This will give foreign investors the legal power to take opportunistic government agencies to court – an important innovation compared to most bilateral investment deals and, in particular, compared to the practice in Third World countries.

The Loopholes

To date, these key provisions in the draft agreement are far from uniformly accepted – indeed the present draft seems to contain less agreed main text than footnotes which signal national wishes for exemptions (OECD 1998). The above principles have to be distinguished from the many loopholes in the present MAI draft. General exceptions and temporary safeguards, as well as a provision for additional national reservations, will weaken the principles. General exceptions from the MAI principles allow governments to intervene in capital flows to protect national security and to ensure the stability and soundness of the financial system. There will also be an escape clause in a balance of payments crisis – which can only be the result of fixed exchange rates and short-sighted monetary policies. Dropping this clause altogether would help to educate the managers of monetary policy in running monetary affairs more responsibly and in tune with the realities of the globalised economy.

There will be categories of specific exceptions from the general principles, for example to protect the environment, labour standards, or a national culture. In any event, it has been explicitly recognised in the MAI draft that the agreement must not constrain a government’s freedom to pursue its environmental goals and to uphold national labour standards. The provision for the protection of national cultures, on which France is insisting, seems to have even more potential for becoming an omnibus excuse from the MAI principles. All these administrative ‘refinements’ will require much testing and explication by costly and time-consuming disputation and arbitration.

Governments joining the MAI will also have the right to register specific national exemptions from the MAI principles, for example on national media ownership, or preferences for minority groups. The Australian government has, so far, reportedly registered a list of no less than 28 national exemptions, and Australian negotiators even seem proud of this! This seems the consequence of an interventionist delusion, namely that governments nowadays are able to enforce outcome-specific regulations with impunity. In reality, many foreign investors will find this too complicated and insecure and will simply turn their backs on Australia, so that ordinary job seekers and all of us who benefit from fast economic growth will turn out to be losers.

The winners from the plethora of loopholes will be opportunistic politicians and the bureaucrats in regulatory agencies. But many of the gains from the sound principles of the MAI, which stipulate non-discrimination, are likely to be eroded, opening the gates for lobbying by selfish business and lobby groups who want to restrict openness to capital and enterprise and who shy away from engaging in undistorted competition, as long as there are politicians who allow them to do so.

Therefore, one cannot but conclude that years of drawn-out negotiations in Paris have yielded a result that is best described in the words of Horace: ‘The mountain has laboured and brought forth a ridiculous mouse!’

The MAI and the National Interest

This raises the question how the draft MAI would affect our national interest.

To answer we have to begin by stating that the ‘national interest’ is not something separate from, or opposed to, the individual aspirations of the citizens. Self-anointed elites may arrogate for themselves the right to define the national interest (Sowell, 1995). But in an information-rich modern democracy, individuals normally pursue general, fundamental values, such as freedom, security, justice, peace, material welfare, and the conservation of a liveable environment. The citizens as a whole rarely share an interest in more specific outcomes. However, the politicians and their bureaucratic assistants, who are temporarily empowered to act  as the agents of the citizen-principals, often wish to act in their own interest and disguise this behind notions of ‘national interest,’ as public choice theory has demonstrated (Buchanan 1988; Kasper 1998). Nowadays the political agents are increasingly subject to the ‘Eric Jones effect,’ so that they are increasingly losing their power monopoly over the citizens and instead have to do the bidding of the principals – nationals and foreigners alike.

Shared fundamental values, such as freedom and prosperity, tend to be promoted by non-discriminatory institutions which facilitate the voluntary, spontaneous co-ordination of citizens. It has been found, time and again, that rules (institutions) need to be general, abstract, and non-discriminatory; they must be knowable and certain (transparent) as well as open so that they can offer guidance in future situations (Leoni 1961; Hayek 1973, 1976; Walker 1988; Kasper 1998; Kasper and Streit, forthcoming, 1998). Such rules are called ‘universal’ (Leoni 1961). They help us to overcome our cognitive limitations and coordinate our actions effectively, allowing us to engage in the complex division of labour and knowledge that is the basis of our living standards. Universality is enhanced when the different rules form a cohesive, ordered, and mutually supportive system.
Universal rules help to order human behaviour and hence assist in the attainment of prosperity, in particular by facilitating entrepreneurship and innovation. They also enhance security and peace by helping us to avoid and resolve conflicts. They also mitigate against discrimination, which furthers justice, and protect individual spheres of freedom, ensuring that liberty does not become license.

We can therefore conclude that universal institutions promote the fundamental values which define the national interest.

Are the MAI Rules Universal?

It is obvious that the principal features of the MAI are indeed universal in that they constrain discrimination and government interventionism. The MAI is aimed at enhancing certainty, partly by making policy more transparent and partly by providing binding arbitration and actionable rights for investors. For these reasons, the MAI can be expected to advance the national interest of Australians. Discrimination in favour of foreign investors is ruled out because they will be subject to the same laws and regulations as national investors. To that extent, fears that multinationals will be above the law are groundless.

The many loopholes and escape clauses in the present MAI draft, however, make it doubtful whether the MAI would satisfy the basic institutional test of universality. The many national exemptions may serve administrative and political convenience and appease specific interest groups, but they detract from the genuine national interest. The present MAI draft is simply too complicated and too administratively clever by half to be of great help to institutional investors. The many provisos and exemptions go against the interest of Australians and the ultimate purpose of the MAI. The Australian negotiators have contributed mightily to making the draft incomprehensible for those who typically make international investment decisions.
Fuzzy institutional designs, such as the current MAI draft, may mean jobs for the boys and girls, but they do damage to the national interest, as Australians should have learnt from the experience with the intricate, detailed and confusing Workplace Relations Act when it was tested in the waterfront dispute. Politicians, of course, have a self-interest in keeping the rules complicated. After all, they derive influence from complex, uncertain rules; naturally they prefer the rule of men to the rule of law. The principles of the MAI would limit the scope for unconstrained political action of national authorities, compel them to provide support services to the globally competing private economy and constrain self-serving political action. In short, they would promote the national interest against politicians and interest groups. Little wonder, the pursuit of a simple, first-best MAI is half-hearted.

MAI – An Abdication of Sovereignty by International Treaties?

A great many detailed, prescriptive treaty obligations, which constrain the freedoms of Australian individual citizens and make our laws uncertain, have over past decades been surreptitiously entered into by the Australian government. This has rightly been criticised, most notably by Liberal Senator Rod Kemp (Kemp 1994). In the last few years, all international treaties have therefore been scrutinised by the Joint Standing Committee on Treaties in the Australian parliament. The MAI has now come before this committee. Should it be rejected because it is yet another infringement of our sovereignty?

The basics of the MAI do not fall into the category of prescriptive interference with our economic and civil liberties. As we saw, they are likely to help protect Australian citizens from arbitrary, detailed government interference and to promote a type of openness that empowers individuals and small players, who find it easier now to inform themselves, to sell and to buy in world markets (Naisbitt 1994). The MAI principles should therefore be endorsed by the Australian parliament as a truce in harmful interventionism with foreign investment. Had Australia, for example, honoured the spirit of the GATT in the 1950s and 1960s and got rid of its high and discriminatory tariffs, Australian citizens would have been spared decades of industrial malaise. We would have enjoyed much earlier the cheaper prices, better quality and other benefits that we came to discover after trade liberalisation in the last ten years.

If adopted, the MAI principles will exert direct constraints on special interest groups, since particular industry lobbies or single-issue groups lose political clout in an open economy. As soon as they go against the general interest, they are confronted with the constraint of capital flight.

With or without the MAI, openness now imposes constraints on the visible hand of government, because the ‘Eric Jones effect’ is now at work. This explains the vehemence of current agitation against the MAI by green lobbies, ‘consumer’ groups, social welfare activists and some unions. They correctly perceive that their traditional target politicians are less likely to be captured if their causes harm Australia’s competitiveness, triggering capital outflow.

In Summary: What Should be Done?

The MAI’s general principles deserve to be endorsed by Australia in order to reduce legal uncertainties and the transaction costs of international investment. This would constitute institutional progress and would strengthen the limited economic and civil liberties that Australians are now able to enjoy. After all, Australia is a small country with a great development potential. We are not in the limelight at the centre of the global economy. Therefore, we would fail to attract sufficient capital, knowledge and enterprise at conditions which are attractive to us, if we played by complicated, changeable and uncertain Australian rules. We, the citizen-principals of Australia, have much to gain by adopting the world’s best-practice code on investment – an open door and non-discrimination without any qualifying buts and ifs!

References

Buchanan, James M. 1988, ‘The constitution of economic policy,’ in James D. Gwartney and Richard E. Wagner (eds), Public Choice and Constitutional Economics, JAI Press, Greenwich, Conn.

Dunstan, Don 1998, ‘Markets must not reign,’ The Australian, 23 April.

Gray, John 1998, False Dawn, Granta Publications, London.

Hanson, Pauline 1998, Speech to the Australian parliament, Grievance debate, 9 March 1998, on <http//www.gwb.com.au/gwb/news/mail/parl.html>

Hayek, Friedrich A. 1973, Law, Legislation and Liberty, vol. 1: Rules and Order, University of Chicago Press, Chicago.

Hayek, Friedrich A.  1976, The Constitution of Liberty, Routledge & Kegan Paul, London.

Jones, Eric 1987, The European Miracle, Cambridge University Press, Cambridge, UK.

Kasper, Wolfgang 1984, Capital Xenophobia: Australia’s Controls of Foreign Investment, CIS Policy Monograph no. 6, Centre for Independent Studies, Sydney.

Kasper, Wolfgang 1998, Property Rights and Competition, An Essay on the Constitution of Capitalism, Centre for Independent Studies, Sydney.

Kasper, Wolfgang and Manfred E. Streit 1998 (forthcoming), Institutional Economics – Social Order and Public Policy, Edward Elgar, Cheltenham, UK.

Kemp, Rod 1994, ‘International tribunals and the attack on Australian democracy,’ in Upholding the Constitution, vol. 4, Samuel Griffith Society, East Melbourne.

Leoni, Bruno 1961, Freedom and the Law, Van Nostrand, Princeton, N.J.

Naisbitt, John 1994, The Global Paradox, William Morrow, New York.

Organisation for Economic Cooperation and Development (OECD) 1982, Control of International Capital Movements, OECD, Paris.

OECD 1998, The MAI Negotiating Text (as of 14 February 1998, updated 26 February), OECD Website, Paris <http://www.oecd.org/daf/cmis/mai/maindex.htm>

Sowell, Thomas 1995, The Vision of the Anointed, Basic Books, New York.

Walker, Geoffrey de Q 1988, The Rule of Law: Foundation of Constitutional Democracy, Melbourne University Press, Melbourne.

Wheelwright, Ted 1998, ‘Carte blanche for global corporations,’ Arena Magazine 34 (April-May): 38-40.

Wolfgang Kasper is Professor of Economics at the Australian Defence Force Academy campus of the University of New South Wales. He has written extensively about international markets and globalisation. This article is a shorter version of his ‘Open for Business?’, Issue Analysis No. 1, published by the CIS in April 1998. Issue Analysis is available on the CIS website at http://www.cis.org.au

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