A cup of Trade-and-Environment Agreement - TEA?

This blog by IDDRI, a member of IEEP's Think Sustainable Europe network, evaluates the EU’s current approach to greening its trade policy and considers the use of Trade-and-Environment Agreements (TEAs) as a way forward for more sustainable trade.

Be it with carbon border adjustment mechanisms (CBAM) or within free trade agreements like EU-Mercosur, the EU has made clear that it intends to leverage access to its market to spark sustainable behavioural change among its trade partners. In a carrot-and-stick approach, “good” behaviour is rewarded by greater market access, while this is withdrawn in case of environmental renegades. Seductive on paper, this approach encounters several limitations however, chief of these being the risk to slide into green mercantilism. Another approach is possible, whereby trade and environmental provisions would be designed altogether within a trade-and-environment agreement (TEA), supporting countries including the EU’s in their shift towards a more sustainable path.

The rise of “non-trade policy objectives” in the EU’s trade agenda

Trade policy plays a critical role in the foreign policy of the EU. Not only is the EU the world’s largest exporter of manufactured goods and services, and the main trading partner of many countries, rich and poor alike. It has also elevated its trade policy, one of the rare areas where the EU has exclusive competences, as one of its most powerful tools, a unique lever to speak with one voice on the global scene in support of EU interests and values. The new EU Trade Strategy stresses that the “EU needs to leverage its openness and engage its partners, notably the biggest emitters and polluters, so that they contribute their fair share to climate change mitigation”.1

The acronym of these values assigned to EU trade policy objectives is “NTPOs” for non-trade policy objectives. In her ‘Agenda for Europe’, Ursula von der Leyen emphasised that “[t]rade is not an end in itself. It is a means to deliver prosperity at home and to export our values across the world” including “the highest standards of climate, environmental and labour protection, with a zero-tolerance policy on child labour.” The need to recast the contribution of trade agreements to sustainability objectives is still largely unmet however.

To meet these NTPOs, the EU mobilizes a wide range of instruments, encompassing positive and negative conditionalities whereby, on paper, the EU can trade a greater access to its market (vis-à-vis WTO’s Most Favoured Nation (MFN) situation) in exchange for a “good behaviour” from its trading partners across NTPOs – this greater access being withdrawn in case of infringements. While debates have mostly focused on ways to make negative conditionalities stronger and more effective (the stick), we argue that an intrinsic weakness of the EU’s leverage strategy lies on the other side – the opportunity for greater market access offered to trade partner countries (the carrot).

The carrot-and-stick approach

Let’s examine first the different instruments the EU can mobilize to achieve the NTPOs. The General System of Preferences (GSP) is one of them. It allows the EU to grant preferential access (vis-à-vis WTO Most Favoured Nation conditions) to its market to low and lower-middle income countries, through the partial or full removal of customs duties on two third of tariff lines. Over the years, the EU has enriched its GSP regulation with NTPOs provisions. The Special Incentive Arrangement for Sustainable Development and Good Governance (GSP+) introduced in 2006 grants vulnerable low and lower-middle income countries full removal of tariffs conditional upon the implementation of 27 core international conventions related to human rights, labour rights, environmental protection and good governance2.

GSP programmes can serve as a carrot-and-stick mechanism to promote NTPOs in developing countries. The EU can offer broader access to a higher number of eligible products (e.g. Philippine), while punishing countries which fail to meet NTPOs requirements (e.g. Sri Lanka, Myanmar and Belarus). The conditions are explicit and non-negotiable. The EU lays them out on a unilateral basis.

The main limitation from a leveraging perspective is the number of eligible countries. GSP+ programmes have attracted only eight countries, other countries were more interested in either the Everything But Arms initiative (a special arrangement for least developed countries, providing them with unconditional duty-free, quota-free access to the EU’s market for all products except arms and ammunition) or the standard GSP (15 countries). De facto, limitations lie in the enforcement of conditionalities – and particularly negative conditionalities. The EU reports many instances of non-compliance with NTPOs. However, self-restraint usually applies, either justified with a desire to limit the harmful impacts on the target population, or to avoid an increase in the cost of importing key products from large emerging markets such as India, Indonesia (GSP) or Pakistan (GSP+).

EU FTAs are another means to make trade fulfil NTPOs. FTAs loosely bind signatory countries to cooperate and enforce an ad hoc list of conventions and treaties dealing with sustainable development in a broad sense. These are included in a dedicated chapter (the Trade and Sustainable Development chapter or TSD chapter). Negative conditionalities pertaining to labour rights and environmental protections are de facto absent, in the sense that no suspension of market access and any other FTAs provisions can occur, should a violation arise. The “essential clause”, whose violation can lead to trade sanctions, is restricted to issues related to human rights and democracy. But even there, self-restraint usually applies in the use of sanctions.

The last mechanism is the broader WTO multilateral trade system. The leverage occurs on a MFN basis, and the sanctions are disciplined by the dispute settlement body (DSB). Short-term prospects to increase market access are however narrow. Trade liberalization on a MFN basis has been stuck since Summer 2008, when the Doha Round was put on hold. And as for the DSB reform, the priority seems to overhaul the functioning of the Appellate Body and address the concerns it has raised well beyond the Trump administration – in particular in the EU3.

Should the DSB be promptly reset, the carrot-and-stick approach to environmental issues will consist in balancing rights and obligations made under Article XX (“General exceptions”) of the General Agreement on Tariffs and Trade (GATT). Article XX allows the DSB to strike a balance between free trade and NTPOs like the protection of human, animal or plant life or health and the conservation of exhaustible natural resources. Since the inception of the WTO and its DSB in 1995, twenty cases have been settled under the general exceptions to Article XX. They have only been deemed a legitimate defence in two cases, meaning in 10% of disputes. The low success rate of Article XX defences can be explained by the fact that most measures used to defend the protection of the environment were found to be provisionally justifiable, but failed to be implemented in a non-discriminatory manner, and/or raised serious concerns of disguised restrictions. Article XX provides a non-negligible stick, which requires the greatest care in the design of NTPOs4.

A shrinking carrot

The EU’s new trade strategy makes clear that the EU will resort to all three instruments – GSP, bilateral FTAs and WTO to advance its NTPOs. In addition, it is also ready to consider autonomous measures “supporting the objective to ensure that trade is sustainable, responsible and coherent with [the EU’s] objectives and values”. The Carbon Border Adjustment Mechanism (CBAM) is a case-in-point. In a context where unilateral market access offerings (GSP) and multilateral liberalization (WTO) are unlikely to deliver much change in trade sustainability impact in the short-term, scrutiny is likely to be placed by the EU on unilateral and bilateral mechanisms to advance its own NTPOs, including delivering on the Paris Agreement.

The question arising next is what the EU can offer on these platforms in terms of market access – the carrot against which it can trade “sustainable” behaviour from trade partner countries. Most of the debates have focused on the “stick” part indeed – the enforceability of sanctions in particular – and have overlooked this part of the EU strategy. The idea to trade greater access to EU market against more sustainable behaviour comes with several caveats however.

First, the EU market access offer needs to be compared with market access offered by other importing countries – the big one in the room being China. In the EU-Mercosur draft agreement for instance, the leverage that the EU could use through imports of deforestation-free beef is small because the bulk of Brazil beef is being exported to China. A bilateral “green deal” on Mercosur beef, with the level of import quotas envisaged by the EU, would not have a significant impact on Mercosur cattle farming practices. The carrot is too small for this.

Another caveat lies in the magnitude of EU market trade restrictions. EU markets which are protected at a significant level have seen their number decline progressively over the last 25 years under various unilateral, bilateral and multilateral liberalization processes. They concern a handful of manufactured products (e.g. textile and clothing) and agricultural products (meat, sugar, maize and rice), thereby narrowing the prospect of preferential market access to trade partner countries.

Thirdly, some of these EU markets are facing internal demand shifts due to growing ethical, health or sanitary concerns. This is the case in particular for meat and sugar. From a consumption point of view, protein of animal origin covers over 50% of the total protein content of European diets but this ratio is set to decline. In recent years, EU meat and dairy consumption has started to recede, with EU meat consumption per capita expected to decline by 1.1 kg by 2030. There again, the carrot is not as big as exporters to the EU might conceive.

Fourth, a review of the most recent EU Trade Sustainability Impact Assessment studies5 suggests that following FTAs implementation, EU exports systematically increased more than EU imports with FTA partner countries. In relative terms, this means that the EU is benefitting more from greater market access and thus the biggest carrot is not on the EU’s but on the trade partner’s side.

Last and to wrap up, the EU runs the risk of portraying itself as a sheer mercantilist trading block, aiming at reaping market export gains (in which it succeeds quite well) through FTAs, while conditioning access to its own market with diverse NTOPs-backed provisions. Propositions to set up a CBAM which would cover products and processes beyond the EU Emissions Trading Scheme’s most energy intensive goods, and grant free allowances to allow EU exporters to remain competitive on third country markets, all this without consultations with EU trading partners, is but one example of what would be comprehended as a unilateral, green mercantilist strategy6.

A cup of T.E.A?

To turn her back on green mercantilism – either effective or perceived – the EU would need to revise its carrot-and-stick strategy and reconsider the contribution of the different levers – unilateral, bilateral and multilateral – to its NTOPs. In particular, FTAs should be envisaged and conceived from the primary perspective of solving climate and environmental issues – and hence redesigned and incidentally be renamed, for instance as “trade and environmental agreements” (TEA). The technical question to address should no longer be “how good or bad for the environment is this agreement?” – something sustainability impact assessment intend to answer with debatable results, but “what contribution trade with country X could make to my transition to a zero-net carbon economy” to take the particular example of climate change.

This comes with several requirements. First, partner countries should be on the same page, conceiving these new types of trade agreements as a means to facilitate the transition towards NTPOs. Should trade partners interested in negotiating these “trade and environmental agreements” be limited in number, trade would not be in peril: MFN and GSP trade would still apply. Secondly, this environmental problem-solving approach requires clarity regarding the policy changes that this agreement should trigger or entail to meet NTPOs – from fossil fuel subsidy reforms, investment incentives, public procurement, the creation of lead markets in hard-to-abate sectors, to free market access for specific green goods, techs and services. Trade is a powerful tool to spread the best available technologies, yet its role in securing the production of much needed technologies and in levelling the playing field for sustainable businesses could be more systematically explored. The perspective of entering into TEA negotiations could spur and streamline reflections on the economic transformations required by NTOPs – at a detailed enough level to be part of a trade agreement. Third, KPIs should be ascribed from the onset, to help monitor and amend the agreement should the need for this arise, and inform the debate on the contribution of trade to sustainable development in a more peaceful way. Last, if agreed upon by both parties, sanction mechanisms should apply across all provisions as means to foster cooperation and enforcement. While not ticking all these boxes, the Agreement on Climate Change, Trade and Sustainability (ACCTS) initiated by New Zealand with Costa Rica, Fiji, Iceland, Norway and Switzerland is a first and critical milestone towards TEAs.

How willing is the EU to adopt TEAs - and join the ACCTS to start with? The fact that the EU refused sanctionable green provisions in trade talks with New Zealand, while New Zealand was clearly open to and actually requested it, provides a bad signal. A TEA with New Zealand – who is trailblazing environmentally-conscious trade agreements - would indeed create a precedent. It is very likely that it would make EU attempts to finalize the EU-Mercosur deal even more difficult. But as a MEP warned, including green rules with teeth is “the only way to secure that we can have free trade agreements in the future”. Rejecting sanctionable green provisions in EU-New Zealand FTA looks like a gigantic political mistake indeed.

Let’s imagine now that EU changes its stance and make the EU-New Zealand TSD chapter sanctionable, while negotiating also its joining New Zealand’s flagship ACCTS. Several questions arise. Should DG Trade keep control of the negotiation process, or should DG ENV or DG CLIMA play a stronger role? And would it require changes in terms of public consultation? Likely answers are “yes”. What would be the consequences on ongoing EU-Mercosur talks? To start with, the EU would need to ask itself and to Mercosurians what kind of NTOPs justify the deal, before tweaking the provisions, including possible sanctions as the precedent of EU-New Zealand would de facto call for. Yet well before sanctions would be debated, the absence of NTOPs would lead to the suspension of negotiations as no shared appetite for TEA could be demonstrated. Of course this would mean to put the agreement in the refrigerator – and 20 years of hard negotiations into brackets. But wouldn’t it be worth making a step back and checking this before finalizing the deal? “A TEA or nothing” would make EU approach to bilateral trade not only greener, but more consistent, readable and predictable.

Acknowledgement

We are grateful to Harro van Asselt (SEI) and Eline Blot (IEEP) for their insightful comments on previous versions of this blog. This blog is part of a research stream on trade and climate change supported by ECF.

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1. https://ec.europa.eu/commission/presscorner/detail/en/qanda_21_645

2. https://www.europarl.europa.eu/legislative-train/theme-an-economy-that-works-for-people/file-new-gsp-regulation/02-2021

3. See EU’s diagnosis and proposition in EU’s « Open, Sustainable and Assertive Trade Policy » Strategy released on Feb, 18th. Available at https://ieep.eu/news/global-challenges-and-sdgs/ieep-s-response-to-the-public-consultation-on-the-eu-trade-policy-review

4. An excellent read on this is Moran, N. (2017). “The First Twenty Cases Under GATT Article XX: Tuna or Shrimp Dear?” in Adinolfi, G., Baetens, F., Caiado, J., Lupone, A., & Micara, A. G. (Eds.). (2017). International economic law : Contemporary issues, Springer International Publishing Switzerland and G. Giappichelli Editore.

5. In relation to EU FTAs with Indonesia, Mercosur, the Philippines, Malaysia, Mexico, China, Australia, New Zealand and Chile. See https://ec.europa.eu/trade/policy/policy-making/analysis/policy-evaluation/sustainability-impact-assessments/index_en.htm

6. The EU Parliament proposal (07/10/2020) states that CBAM “must eventually apply to all imports to ensure that it covers our entire carbon footprint and prevents distortions on the internal market”, even though “temporarily, it will apply to the main raw materials”.

Among growing concerns over EU’s unilateral approach of climate-related border measures, see https://www.euractiv.com/section/energy-environment/news/developing-countries-deem-eu-carbon-border-levy-protectionist/

7. https://www.mfat.govt.nz/en/trade/free-trade-agreements/trade-and-climate/agreement-on-climate-change-trade-and-sustainability-accts-negotiations/