Reevaluating Global Trade Governance Structures to Address Climate Change

This Global Governance Working Paper is a feature of the Council of Councils (CoC), an initiative of the Council on Foreign Relations. Targeting critical global problems where new, creative thinking is needed, the working papers identify new principles, rules, or institutional arrangements that can improve international cooperation by addressing long-standing or emerging global problems. The views and recommendations are the opinion of the author only. They do not necessarily represent a consensus of the CoC members, and they are not the positions of the supporting institutions. The Council on Foreign Relations takes no institutional positions on policy issues and has no affiliation with the U.S. government.

The Challenge

In 2015, the overwhelming majority of nations achieved consensus on climate change with the Paris Agreement. Trade is a critical multiplier of the fossil fuel–intensive economic activities that are the root cause of climate change, so trade governance needs to address the challenge. To some extent, this is already happening. Almost every contemporary trade agreement contains a chapter on the environment and trade. The World Trade Organization (WTO), the cardinal multilateral institution governing international trade, is slowly becoming more aware of climate change, which could lead to an alignment between WTO preambular trade policies and other WTO member-state declarations to address climate change.

However, the trade regime response has been, from a normative standpoint, lukewarm. Climate change poses a great challenge to the future, is uneven in its manifestation and effects, and extends to every part of the planet. Yet agreements linking environment and trade, such as the Environmental Goods Agreement (EGA) negotiations, have stalled, blocking efficient climate and trade governance. Many trade and environment chapters in trade agreements contain only vague commitments to collaborate and emphasize the exchange of information as a first priority. Fossil fuel subsidies are still prevalent in many parts of the world. The legal treatment of renewable energy and fossil fuel subsidy elimination at the multilateral trade level is still a work in progress. Much needs to be done, especially in global trade governance.

Recommendations

Five options exist to reform the international trade regime to adapt to the challenge of climate change.

Something Old

First, the 1947 General Agreement on Tariffs and Trade (GATT) can be used to adapt trade rules to the climate challenge. The rules that govern international trade were negotiated at the end of World War II, and they still govern the majority of international trade in the framework of the GATT and the WTO agreements. The cardinal rule of trade under both the GATT and the WTO is the nondiscriminatory treatment of goods, which is established in the most-favored-nation and national-treatment principles. More specifically, WTO member states are not allowed to discriminate between like products originating in other WTO member states, and goods originating from WTO member states cannot be treated differently than domestic goods.

A series of legitimate policy exceptions exists that allows for temporary and ad hoc derogation, if products from one country genuinely need to be treated differently from another. Beyond the main exceptions in the GATT, the WTO agreements set out a series of possible carve-outs, exceptions, and waivers that allow countries to temporarily set the rules aside. However, none of the exceptions can ever develop into “a means of arbitrary or unjustifiable discrimination or a disguised restriction on international trade.”

The trade regime has built-in safeguards for legitimate policy concerns, including climate change and environmental problems, despite the fact that it was designed at a time when such issues did not seem as relevant as they do today. The conservation of the environment and exhaustible natural resources and the protection of human, animal, and plant health and life are all outlined as legitimate reasons to grant such exceptions to the rule of nondiscrimination. WTO panel and Appellate Body reports have also refined the content, meaning, and context of the obligations in the exceptions clauses of the GATT, most notably in confirming a U.S. sea turtle conservation law (“shrimp-turtle”), upholding the U.S. dolphin-safe labeling requirements (“tuna-dolphin”), and confirming the EU seal trade ban (“European communities-seals”). However, climate change–related measures, more strictly defined, have not yet been brought before the WTO.

The old GATT rules and case law give rise to optimism. Climate measures can be nondiscriminatory in nature and in application. If the measures distort trade, governments can still defend them using the policy exceptions in GATT article XX [PDF] relating to the conservation of exhaustible natural resources and measures necessary to protect human, animal, and plant life or health. Industrial policies supported by trade rules contribute to climate change; they should be reconsidered and new meaning should be given to old legal rules.

Something New

Second, the WTO should consider more options to include climate change measures in WTO law. Once climate change became a global priority and the clear relationship between trade and climate was acknowledged, language on trade was inserted into the rules of the UN Framework Convention on Climate Change (UNFCCC). Echoing language from the GATT, Article 3.5 of UNFCCC notes:

The Parties should cooperate to promote a supportive and open international economic system that would lead to sustainable economic growth and development in all Parties, particularly developing country Parties, thus enabling them better to address the problems of climate change. Measures taken to combat climate change, including unilateral ones, should not constitute a means of arbitrary or unjustifiable discrimination or a disguised restriction on international trade [emphasis added].

Beyond vague commitments on environmental sustainability in preambular text, climate change has not been part of the trade regime. However, this is changing. The 2018 report on the WTO and Sustainable Development Goals acknowledges the relationship between trade and climate change mitigation efforts, highlighting the importance of the WTO’s Committee on Trade and Environment.

In this spirit of governance innovation and policy dialogue, more options to include climate change measures in WTO law should be considered. The trade agreements have room to use permissive legal imagination and, with countries’ political will, create new space for climate change action without fundamentally altering the agreements. Here are three options.

Countries can counter this incentive to relocate by introducing BCAs, which raise the prices of less accountable or nonaccountable products manufactured abroad to match the monetary effect of domestic environmental-accountability mechanisms. Since BCAs are taxes that apply to imports, a BCA regime would need to comply with WTO rules. A BCA can be WTO-compatible if it avoids discriminating among foreign products with the same carbon footprint and treats all domestic production with the same tax. The wording, goals, and application methods of BCAs should be entirely origin-neutral. To date, no jurisdiction has implemented BCA measures, so carbon taxes have not been examined before the WTO dispute process. To make national regulation compatible with WTO law, a country can take steps to demonstrate that it is committed to the environment and is not simply employing discriminatory and trade-distorting policies. The implementation of BCAs also needs to be tailored to avoid undue burden on developing economies that do not contribute to climate change nearly as much as larger countries.

• Implement WTO-compatible border carbon adjustments (BCAs). When carbon taxes are adopted on a larger scale, there is a significant risk that domestic manufacturers will flee to countries with lower environmental standards—carbon emission havens—where companies can produce commodities uninterrupted and without accounting for their carbon footprint, a phenomenon known as leakage. Companies hope that upon relocating [PDF] to less carbon-accountable jurisdictions, they will be able to continue producing cheaper products and enjoying a price advantage.

  Countries can counter this incentive to relocate by introducing BCAs, which raise the prices of less accountable or nonaccountable products manufactured abroad to match the monetary effect of domestic environmental-accountability mechanisms. Since BCAs are taxes that apply to imports, a BCA regime would need to comply with WTO rules. A BCA can be WTO-compatible if it avoids discriminating among foreign products with the same carbon footprint and treats all domestic production with the same tax. The wording, goals, and application methods of BCAs should be entirely origin-neutral. To date, no jurisdiction has implemented BCA measures, so carbon taxes have not been examined before the WTO dispute process. To make national regulation compatible with WTO law, a country can take steps to demonstrate that it is committed to the environment and is not simply employing discriminatory and trade-distorting policies. The implementation of BCAs also needs to be tailored to avoid undue burden on developing economies that do not contribute to climate change nearly as much as larger countries.

• Adapt WTO rules to simplify adoption of green-forward legislation at the subnational level. Initiatives adopted at the regional, subnational, and city levels—including green cities, the Western Climate Initiative linking carbon-pricing systems between Quebec and California, and U.S. state laws—are making strides in combating climate change. Unfortunately, WTO rules can limit attempts by subnational actors to adopt and implement climate change regulation. GATT article XXIV:12 also holds federal governments liable for subnational initiatives in disputes. But when national consensus is difficult to achieve or takes longer than desired, subnational actors who want to promote a green economy take the initiative before the national government. WTO member states could negotiate an interpretive note that allows for the adoption of legislation as long as it clearly contributes to protecting the environment and promoting a green economy. If an interpretive note proves difficult to negotiate, then a set of guidelines outlining permissible subnational environmental measures could be useful for green-forward subnational entities.
• Adopt a climate waiver at the WTO. Similar to an interpretive note, a climate waiver would be premised on achieving some consensus among WTO member states. Climate waivers can be particularly useful with subsidies. Article IX:3 of the Marrakesh Agreement (which established the WTO) allows for waivers “in exceptional circumstances.” Former Appellate Body President James Bacchus has proposed adopting a collective climate waiver, an expanded version of the practice of waivers to include multiple countries at once and allow for renewable energy subsidies or other climate change regulation. This waiver would not change existing rules but could link climate change to the notion of “exceptional circumstances,” adding to the interpretation of trade law in favor of climate change action. Additionally, it would pose the least risk for the WTO as a system, because it would be reviewed annually.

Something Borrowed

Third, countries should use the language included in the trade and environment chapter of the Comprehensive Economic and Trade Agreement (CETA) as a model going forward. A plethora of trade agreements have recently concluded that include trade and environment chapters, and sometimes references to climate change and the UNFCCC. Regional trade agreements account for a large part of international trade governance and collectively are extensive in size, scope, and effect. Some agreements also contain innovative rules and structures that enable negotiation and conclusion at a bilateral or smaller scale.

The last three major regional trade agreements that Canada has been party to—CETA, between Canada and the EU; the Comprehensive and Progressive Agreement for Trans-Pacific Partnership; and the U.S.-Mexico-Canada Agreement—all contain extensive trade and environment chapters promising to promote a mutually supportive environment for trade and environment policies. But these chapters generally do not move much beyond the framework of cooperation and support into concrete legal obligations. CETA contains the strongest, most progressive language of the three agreements, perhaps because of the national political context of both contracting parties. For example, Article 24.5 provides that a party “shall not, through a sustained or recurring course of action or inaction, fail to effectively enforce its environmental law to encourage trade or investment.”

CETA’s chapter on trade and environment stands apart from other agreements because it contains a reference to climate change and stronger language that supports national policies implementing the Paris Agreement. The chapter could thus be used as a benchmark for Canada and the European Union for future negotiations with other trading partners. The chapter could also be used as a model for other countries to negotiate similar provisions. Canada, the European Union, or another front-runner in the area of trade and climate change provisions can then lead by example and propose a model chapter that other countries can copy, borrow, expand, and use in their trade agreements.

Something Green

Fourth, parties should consider climate change when implementing all provisions—not just environmental sections—of trade agreements. Modern international trade agreements often include provisions in other parts of the agreements that can affect efforts to lower carbon emissions.

For example, intellectual property chapters can have environmental implications. Under existing intellectual property rules, technology that can swiftly change production methods is not always immediately accessible to everyone. But policy options exist within the intellectual property regime that can disseminate technology to those who need it, such as commonly held patents among participant countries or organizations. Instead of adopting even stricter intellectual property protection in bilateral and mega-regional trade agreements, countries could start adding exceptions, such as compulsory licensing for green technologies, and treat such technologies as a global public good that should be fully accessible sooner than traditional intellectual property rules would allow.

Fifth, the EGA negotiations should be picked up again, both bilaterally and plurilaterally. Negotiations on the EGA at the WTO have stopped, and achieving consensus among WTO member states will take a long time. A major point of debate is deciding what is and is not an environmental good. Another concern is that the EGA itself will be diluted and include few provisions and tariff reductions that make meaningful change. Given the multiple institutional problems the WTO faces in addition to the recent deadlock, plus the current international political climate and the Donald J. Trump administration’s WTO skepticism, the EGA negotiations have little chance of picking up speed again. In the meantime, countries should discuss concessions on environmental goods at a bilateral level and include them in trade agreements, thus creating mini-EGAs.

Conclusion

Strong political will exists among a few countries to achieve progress and policy coherence to address climate change. The WTO and the global trading regime that has evolved through free trade agreements could be of great assistance. Policy and legal options exist within these agreements, some of which are innovative in the field of WTO law.

Trade policy officials need to maintain a big-picture perspective, promoting the trade and climate change debate throughout all trade agreements, conducting climate-effect analyses for all chapters of trade agreements, and finding new ways to allow climate action. Climate change has enormous economic costs and is imperiling humanity’s future. The world needs to use rules that have been around for decades, create new rules, learn from one another, and find new space for climate change policy to be effective in combating the climate change challenge.

The author would like to thank Rohinton P. Medhora for discussions, feedback, and ideas, particularly in the segment on intellectual property. The author would also like to thank panel participants at the twenty-fourth Conference of the Parties to the UNFCCC’s Centre for International Governance Innovation (CIGI) Side Event on Trade and Environment (Poland, December 2018) and participants in the Green Finance CIGI roundtable (Ottawa, March 2019). Finally, the author would like to thank Kaewkamol Pitakdumrongkit (S.Rajaratnam School of International Studies), Nicolo Sartori and Luca Bergamaschi (Institute of International Affairs), Ayelen Maria Ghersi (Argentine Council for International Relations), Samir Saran and Aparajit Pandey (Observer Research Foundation), Carole Mathieu (French Institute of International Relations), and Susanne Droege (German Institute for International and Security Affairs) for their detailed and thoughtful remarks and suggestions.