-Aditi Vishwas Sheth

In light of COVID-19 and its adverse impact on businesses, India amended its Foreign Direct Investment (“FDI”) policy to prevent opportunistic takeovers. China has alleged that this amendment is in violation of World Trade Organisation (“WTO”) rules. This is because the new policy now routes all investment where the owner/beneficial owner shares a land boundary with India through the government-approval route. It is interesting to note that out of India’s seven neighbouring countries, Pakistan and Bangladesh already had such an imposition against them and Nepal, Myanmar, Bhutan and Afghanistan, the  remaining countries have very insignificant investment in India. While other countries have similarly monitored incoming FDI, only India’s policy has confined it to its neighbours and not essential industries.

This article argues that India’s amendment to its FDI policy is in fact violative of WTO rules because, first India is obligated to China under WTO rules and second, India cannot successfully take recourse to any exceptions provided under WTO rules.

1.     Obligations under WTO

General rules regarding FDI are codified in General Agreement on Trade in Services (“GATS”), and the Agreement on Trade-Related Investment Measures (“TRIMs”) both of which are based on the General Agreement on Tariffs and Trade (“GATT”),

1.1.  GATS

FDI is recognised under GATS as ‘commercial presence’- Mode 3 of providing services by entering another member’s territory. Under GATS, obligations can be divided into general and specific obligations. General obligations, comprising Most Favoured Nation (MFN), and Transparency, are de facto applicable unless a specific exemption is claimed whereas specific obligations of Market Access and National treatment, are based on a positive list of specific commitments. Notably, in sectors like audio-visual, banking services, etc, the MFN obligation is subject to exemption specifically made by India in Annex II. Outside these exemptions, China can claim a violation of MFN obligation, contending that subjecting certain countries to a different procedure competitively disadvantages them.

1.2.  TRIM

TRIMs facilitate FDI by laying down certain guidelines for regulations imposed by host governments. If a TRIM has trade-distorting effects and is inconsistent with the provisions for National Treatment and Quantitative Restrictions, it must be withdrawn, notwithstanding other rights and obligations under GATT 1994. Limiting FDI in India should be classified as a TRIM because it distinguishes it from domestic investment, and therefore, doesn’t accord national treatment.

It has also been argued that there must be an objective impact-based link between free trade and the measure adopted. However, it is not necessary that there is a direct impact on trade: local equity requirements, expatriate quotas, etc. evidence the same. It is sufficient that there is an impact on trade flow, in that they influence the firm’s choice of production, location of production or technique as was upheld in China-Audiovisual. Thus, limiting foreign equity by introducing a procedural delay, as has been done by India, can be treated as a TRIM and China can seek recourse.

2.     Exceptions under WTO

However, both GATS (Articles XIV-XIV^bis), and TRIM (Article III), provide for general exceptions which allow justification on ‘non-trade policy grounds’, and security exceptions which are ‘necessary’ to protect the country’s ‘essential’ security interests. While GATS has its own provision for security interest, it can be assessed together with TRIM’s exemption under Article XXI of GATT, because of its semantic similarity with Article XXI and GATT being the principal rule-book.

2.1.  General exception

India cannot claim a general exception (presumably for data privacy) as the discrimination must have a rational nexus with the interest claimed, and has to be justified and non-arbitrary. This was held by the Appellate body in US- Gambling. There is no reason why Facebook would be allowed to invest in India while a Chinese firm wouldn’t be.

2.2.  Security exception

India cannot claim a security exception either because (a) the discrimination doesn’t fall under the criteria laid down in XXI, and even if it does, (b) the discrimination is not necessary to the Measure.

Article XXI starts with a non-obstante clause with respect to the entire agreement and says that members cannot be prevented from taking any action which it considers ‘necessary’ for the protection of its ‘essential security interests’. This includes actions taken in time of war or ‘other emergency in international relations’.

It has been contended whether WTO has the jurisdiction to decide what constitutes an emergency and whether the measure is related to the emergency. The jurisprudence under this Article is limited because either, members have only invoked it sparingly or have been able to settle outside of WTO or because of the terms of reference of the dispute, the Dispute settlement body lacked jurisdiction.

However, in a recent report on Russia – Traffic in Transit, the panel laid down certain important considerations. It was held that the Panel had jurisdiction to review Russia’s invocation of Article XXI. It was also observed that an objective evaluation is required to ensure the requirements of that provision are satisfied and that it is not only up to the invoking Member itself to make that determination. This included both the justiciability of what constitutes an emergency and whether the measure is related to the emergency. To arrive at this conclusion, an originalist method interpretation was adopted where the Panel considered the history of Article XXI and hence the intention of the drafters.

On the question of whether Russia’s measures were ‘necessary’, it found that determining the necessity of the measure was not within the mandate of WTO. Therefore, the Panel paid due deference to the sovereignty of the state and its political concerns. However, while parties enjoy a wide margin of appreciation, the right is subject to its use in ‘good faith’ taking into account the overall context. Therefore, curtailing potential abuse of the exception by limiting the circumstances in which the exceptions could be invoked. A balance was struck between margins of discretion and the scope of judicial review in a meaningful way without impairing wide policy avenues enjoyed by Members under Art. XXI.

2.2.1.     (a) The discrimination doesn’t fall under the criteria laid down in XXI

The report found that the emergency situation that a Member claims has to be as significant as the “time of war” (using the principle of ejusdem generis). Those interests, like the interests that arise from a situation of war, must  be similar to defence and military interests, as well as maintenance of law and public order interests. A mere breakdown of economic or political relations does not fall under the exception as India has stated, its interests are only to prevent opportunistic takeovers. Further analysing the gravity of the situation, whether COVID-19 is an emergency where international relations are as strained as they would be during a war-like situation is again debateable. While nations have blamed China for not being transparent in its dealings with COVID-19 and sending faulty equipment, they have continued to import healthcare equipment. Therefore, this situation is not a political situation, rather an economic one.

2.2.2.     (a) Discrimination is not necessary to the Measure

While India’s concerns especially are not unfounded, it should have adopted a more nuanced and non-discriminatory approach. A measure cannot be manifestly disproportionate to the threat of security. To give effect to the real intention of the drafters, that is to balance security and trade interests, one should deal with an emergency with the least amount of discrimination.

In this case, it may be difficult to establish why the regulation has been applied for select countries, given that the threat of acquisition of domestic industries is the same from all foreign countries. Further, a distinction between the kind of industry and the kind of investment should be made. To protect from the threat of national security, regulation of FDI in strategic industries is warranted. Additionally, Greenfield investments and venture capital funds should have been treated differently especially in times of a cash crunch in the economy.

It is also plausible that India claims that its ‘special developmental needs’, as provided under the Doha Declaration On The Trips Agreement And Public Health, need to be taken into account. The line of reasoning adopted above would be sufficient justification for that too.

Therefore, if this dispute were to go to WTO, China’s claim would succeed. There is serious want for clarity in the changes made to the FDI Policy. One place where the government can begin is to clarify why the scope of these changes is restricted to neighbouring countries when the threat is equal for all countries. If the aim was really to protect India’s sovereignty, why was the protection not accorded to essential industries only? In trying times like the COVID-19 pandemic, every country is in dire need of FDI to re-boot its economy, India would do well to make strategic moves than just perpetuate Chinese fear-mongering.

This article is authored by Aditi Vishwas Sheth. She is a first year student at the National Law School of India University.