Chua, Amy L.

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Foreign Investment Cycles in Emerging Economies

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Saturday, April 12: Morningto. Enforcement will be in the normal way, essentially through the ICSID and New YorkConvention routes, though the MAI will independently obligate MAI parties to providefor the enforcement of the pecuniary awards. In this area, unlike state-state arbitration,there is no need to worry about regulating responses to noncompliance, because theseawards are, hopefully, enforceable, although the MAI will do nothing to assure theavailability of sovereign-owned property for execution ofjudgments.There are compromises that must be made in this negotiation, and a multilateral textcan never contain the preferred provisions of each party, but I believe we are on our wayto a regime that will be novel and state of the art in a number of ways and will provide asound multilateral basis for protecting and promoting international investment. And thatinvestment is an increasingly vital element in the development and well-being of theworld economy.FOREIGN INVESTMENT CYCLES IN EMERGING ECONOMIESby Amy L. Chua*Alejandro Escobar, Daniel Price and David Small have been discussing how mosteffectively to implement international investment regimes in emerging economies. Iwould like to offer a different perspective: a historical perspective, which revisits thequestion that Professor Vandevelde first raised, about the sustainability of foreigninvestment regimes, or marketizing regimes more generally, throughout the developingworld. Please keep in mind that my remarks apply only to the developing world,especially when I come to policy suggestions, because I suspect that some of mycopanelists will vehemently disagree with some of the things that I am going to say.Let me begin by drawing your attention to a phenomenon in the developing worldthat has been broadly overlooked. (For purposes of my talk, I'm going to limit myself toLatin America and Southeast Asia.) The phenomenon I'm referring to is the existence ofa historical cycle in which developing countries in both Latin America and SoutheastAsia have oscillated between promarket regimes and anti-free-market regimes for aslong as they have been independent. Consider the history of Mexico. In Mexico,independence was followed by a long period of economic liberalism: that is, privateproperty regimes generally accompanied by the vigorous promotion of capital investmentand, in particular, an openness to foreign capital and influence. This period of laissez-faire was followed by the Mexican Revolution, which culminated with President LdzaroCirdenas's nationalization of the railroad and oil industries in the 1930s. Not surpris-ingly, foreign investment (one of Cdrdenas's main targets) declined dramatically duringthis period; in some industries, foreign investment was eliminated altogether.This revolutionary period was followed by another period of free enterprise, inwhich many of the industries previously nationalized-for example, the petroleum andsulphur industries-were reprivatized, and foreign investment was once again vigorouslycourted. This was followed by another round of nationalization and statist policies underwhich key industries were again closed off to foreigners, and then by the current periodof economic liberalization in Mexico, in which foreign investment laws are again beingrapidly amended to bring foreign capital back into the same key sectors: for example,petroleum, mining, communications, transportation and utilities.A similar pattern of market policies followed by backlash against the market holdsthroughout Latin America, with almost no exceptions, and in Southeast Asia as well,* Associate Professor, Duke University School of Law.499ASIL Proceedings, 1997although in Southeast Asia one sees fewer oscillations, because the countries thereachieved independence much later than the countries of Latin America. If anyone isinterested in the empirical support for this claim of cyclicality, I can refer you to anarticle of mine in the Columbia Law Review.1Recognizing this cyclicality raises a set of questions that are different from the onesthat my copanelists have been focusing on: Specifically, why has this happened in thepast? Are things different today? Professor Vandevelde mentioned the collapse of theSoviet Union and the excellent track record of the East Asian countries. Have therelevant conditions, both internal to developing countries and international, changedsufficiently? Or are today's liberalized foreign-investment regimes subject to the samekind of backlash that has occurred so many times before?I would like now to address these questions. First, why have there been cycles inLatin America and Southeast Asia? That is, what are the pressures that have repeatedlycaused developing countries to move away from the free market, especially sincenationalization and state-interventionist policies have historically, and repeatedly, beensuch failures (under any number of economic indicators)? Part of the answer has to dowith something I am sure you are all aware of. That is, in the past, free-market, pro-foreigner regimes in the developing world repeatedly benefited the foreign investors farmore than the local populations. In fact, in the past, during periods of economicliberalization, the vast majority of Mexicans, or Peruvians, or Indonesians or Mataysexperienced little or no benefit from a liberalized market. As a result, politicians (oftenthemselves from the elite classes) found that they could whip up populist support forthemselves by playing on these antiforeigner sentiments. And in fact, in case after case,leaders in the developing world came to power on explicitly antiforeigner, anti-imperialist, anti-free-market platforms. This was true of Juan Per6n in Argentina,Getfilio Vargas in Brazil, Josd Batlle y Ord6fiez in Uruguay, Salvador Allende in Chile,Sukarno in Indonesia and U Nu in Burma (now Myanmar), among others.But that is only part of the explanation. There is another equally important dynamicgoing on that is internal to developing countries. Free-market policies in the developingworld (including liberalized foreign-investment regimes) have tended to benefitdisproportionately not just Western foreigners but certain resented internal foreigners(this is the term I am going to use for economically dominant ethnic minorities in thesecountries), vis-;-vis the rest of the population.Who are these internal foreigners? In Southeast Asia I'm referring principally to theChinese. In countries such as Malaysia, Indonesia, the Philippines, Thailand andVietnam, during free-market periods the Chinese minority, the so-called "Jews of theOrient," who make up much of the commercial class in these countries, prosperdisproportionately. In stark contrast, the predominantly rural "indigenous" majorities inthese countries basically remain impoverished, experiencing little or no benefit from thefree market. The Chinese are not the only entrepreneurial minority in Southeast Asia. InMyanmar (as well as East Africa and the Caribbean), historically it was the very smallIndian minority who tended to become economically dominant under free-marketconditions, relative to the indigenous majority. In Sri Lanka it was the Tamil minority, asopposed to the Sinhalese.Accordingly, in Southeast Asia, these movements against the free market-in favorof restrictive investment policies, nationalization and redistribution-historically havebeen far more expressions of ethnic nationalism than of Marxism or socialism. Unlike1 Amy L. Chua, The Privatization-Nationalization Cycle: The Link between Markets and Ethnicity in Devel-oping Countries, 95 COLuM. L. REV. 223 (1995).Saturday, April 12: Morningthe experience of the former Soviet Union or China, during these antimarket periods inSoutheast Asia there has really never been an attempt to eliminate private property or tolevel the class structure (Vietnam is the exception). Rather, in these countries, antimarketmovements have principally been attempts by certain "indigenous" groups to reclaimresources and economic power from other groups identified as "foreigners." And againthese foreigners include not only Western "imperialist" foreigners but also these"foreigners within."For example, in Indonesia, President Sukamo's sweeping nationalizations in the1950s and 1960s were directed not just at the Dutch but also (indeed, most viciously) atthe country's Chinese minority. In fact, through nationalization and other measures ofeconomic nationalism, Sukamo successfully "indigenized" Indonesia's financial sector,its mining sector and most of the modem industrial sectors-all of which had beenformerly dominated by the Chinese minority, along with the Europeans.Similarly, in Burma, General Ne Win's nationalization of over 15,000 enterprises inthe 1960s and 1970s expressly targeted not just Western but Indian proprietors (many ofwhose families had lived for generations in Burma and many of whom consideredthemselves Burmese). Those nationalizations were accompanied by extensive violenceagainst the Indian minority.These examples are typical. If one looks at history, it is clear that ethnic national-ism-not socialism-has repeatedly been the driving force behind anti-free-marketmovements in Southeast Asia. This is important because it means the fact that the SovietUnion has collapsed-and that socialism has been "discredited"-does not ensure thesustainability of today's market regimes.Let me turn now to Latin America. The social structure in Latin America is quitedifferent from that in Southeast Asia, in at least three salient ways. First, in LatinAmerica, because of historically high rates of racial intermarriage (as well as concubi-nage and polygyny), one tends not to find discrete ethnic groups living and workingseparately from each other (as, for example, the Malays, Chinese and Indians do inMalaysia). Second, whereas in Southeast Asia, economic and political power aredivorced-the "indigenous" majority holds political power, while an ethnic minorityholds economic power-in Latin America political and economic power have historicallybeen concentrated in the same hands. Third, as a result of the first two factors,nationalization and antimarket movements in Latin America have typically assumed anantielitist cast that gives them a much more explicit dimension of class conflict than ispresent in Southeast Asia.Nevertheless, I think that what has been happening in Latin America is directlyanalogous to the dynamic in Southeast Asia. It is true that ethnic and racial lines in LatinAmerica are much less starkly drawn than in Southeast Asia. But there exists in LatinAmerica what sociologists have long recognized as a pigmentocracy: a spectrum withtaller, lighter-skinned, Spanish-blooded aristocrats at one end; shorter, darker, Indian-blooded masses at the other end; and a good deal of "passing" between. 2As a result, there's a significant degree of overlap between class conflict in LatinAmerica and ethnicity. In fact, just as in Southeast Asia, during periods of free enterpriseor economic liberalism a small, ethnically definable group--I am talking about theSpanish-blooded, Europeanized, Caucasian elite-prospers disproportionately. Andagain, during periods of nationalization and antimarket sentiment, this group comes to bedepicted as a "foreigner within," and nationalizations are directed not just at Westernforeigners, but at this internal foreigner as well.2 See MAGNus MORNER, RACE MXTURE IN THE HISTORY OF LATIN AMERICA 54 (1967).ASIL Proceedings, 1997Indeed, if you look at Latin American history, nationalization movements haverepeatedly presented themselves in just such ethnically tinged, nationalist terms. Forinstance, the revolutionary movement in Mexico at the beginning of this century was anexplicitly nationalist movement, and it had an explicitly ethnic dimension: Indian bloodwas glorified as the mark of a true Mexican. Accordingly, Cdrdenas's nationalizationstargeted not just Yankees up north but internal foreigners as well: the white landownerswith their links to foreign capital and their European cultural pretensions.3Similarly, in Peru and Bolivia, nationalization programs early in this century wereaccompanied by slogans such as, "The only true Peru is Indian Peru" and "The land tothe Indians, the mines to the state.' 4 Indeed, in every Latin American country, the idea ofan internal foreigner has been a powerful organizing, mobilizing force for politicianschampioning nationalization.5To summarize, in country after country in Southeast Asia and Latin America, liberal,market-oriented policies have distributed their benefits disproportionately to Westernforeigners and to certain resented internal foreigners; as a result, these market policieshave fueled backlash reactions culminating in the return of xenophobic, antiliberaleconomic programs.To return to the present, the real question then is whether there is a danger that thiscycle could happen again. I think the answer is clearly yes. Throughout Latin Americaand Southeast Asia, one already sees resentment starting to form against both theWestern foreigner and the internal ethnic foreigner. In Indonesia, for example, where theChinese make up less than 5 percent of the population but control "an estimated 70percent of the country's private domestic capital," the Minister of Technology haspublicly advocated "reclaiming" the country's industry and technology from the Chineseminority; many think that Minister Habibie will eventually succeed Suharto as President.6In fact, just a few days ago the front page of the New York Times reported riots againstthe economically dominant Chinese. Similarly, in Mexico, a well-known columnist hasrecently charged that privatization "has made multimillionaires of 13 families," while therest of Mexico, some 80 million people, continues to live in poverty. If one looks, thewarning signs are there.The solution is certainly not to scrap the market-there is no question that themarket and foreign capital will have to be part of any developing country's long-termsolution. Rather, the point is that today's foreign investment treaties and marketizationprograms, to be effective, to last, to be sustainable, are going to have to focus in a waythey never have on the problems of nationalism and ethnicity in the developing world.As to specific policy suggestions, ideally the concrete steps to be taken would be theresult of sophisticated bargaining by governments and private firms, with the assistanceof economists and international organizations. But what I want to do right now is to3 See Chua, supra note 1, at 276-77.4 Fredrick B. Pike, The Problem ofIdentity and National Destiny in Peru and Argentina, in LATIN AMERI-CAN HISTORY 182 (Fredrick B. Pike ed, 1969); MAGNUS MORER, THEANDEAN PAST205 (1985).5 Not surprisingly, in more Europeanized Latin American countries with smaller Indian populations (for ex-ample, Argentina, Chile and Uruguay), the internal foreigner tends to be defined in class-based terms. Even in thesecountries, however, nationalizing leaders have sought to harness ethnicity and the resentment it generates iningenious ways. Chua, supra note 1, at 277-79.6 THOMAS SOWELL, MIGRATIONS AND CULTURES 176 (1996); see Raphael Pura, Technology Guru StandsOut in Indonesia, WALL ST. J., Nov. 21, 1994, at B6D.'Anthony DePalma, Mexico Sells Off State Companies, Reaping Trouble as Well as Profit, N.Y. TIM7ES, Oct.27, 1993, at Al, A8 (quoting Alvaro CepadaNeri).Saturday, April 12: Morningthrow out some very general suggestions that could be building blocks or discussionpoints in addressing the kinds of problems I've described.First, and I am sure Mr. Price and Mr. Small will disagree, in developing countriessome foreign ownership restrictions may well make sense in certain sectors, for example,highly sensitive, high-profile sectors, such as oil in Mexico, teak in Myanmar and silverin Peru. These are sectors with symbolic value, sectors with a history of nationalizationand renationalization. Foreign investors and the international community should realizethat, in the long run, it will be the presence of indigenous owners along with the foreignowners that safeguards the sustainability of liberal investment regimes.Second, perhaps foreign investment treaties, whether bilateral or multilateral, shouldaddress in an effective way the possibility of holding Western investors to higherenvironmental and labor standards. For example, when 8,000 Costa Rican workers aresterilized because U.S. companies such as Chiquita and Dow Chemical used chemicalsthat were banned in the United States, you have a recipe for backlash against foreigninvestment!Finally, I want to address performance requirements. Again, in the context of devel-oping countries, states with emerging economies should think seriously about requiringmajor foreign investors to undertake projects intended to benefit the general population. Iworked on the privatization of Tel6fonos de M6xico (Telmex), Mexico's nationaltelephone company, for four years, representing the Mexican Government. UnderMexico's telecommunications laws the new owners of Telmex (who include Southwest-ern Bell) must comply with a detailed operating concession. The concession in turnrequires Telmex to expand and modernize the telephone system in ways specificallyintended to benefit Mexican consumers. In particular, Southwestern Bell is required tobring telephone service to sparsely populated rural areas.9 (This is something that wasdone in the United States in the 1930s.) Along these lines, governments of developingcountries could perhaps work with economists to come up with ways to require foreigninvestors to put in water purification plants, hospitals or much-needed infrastructure, witha view to long-term efficiency and development.Other methods would be appropriate for trying to handle the even more difficultproblem of market-triggered backlash against the internal ethnic foreigner. Employeeparticipation schemes, intended to disperse the benefits of the market, have beensuccessful enough in Chile (the Endesa privatization) and in the United States (the UnitedAirlines Employee Stock Ownership Plan) to warrant attention to such strategies. Again,for lack of time, I refer you to my Columbia Law Review article.' 0The problem, of course, with all these suggestions is that they entail short-runefficiency costs; in the short run, they make it marginally less desirable for foreigninvestors to invest in emerging economies. But the international community as well asforeign investors should realize that such short-term costs may be necessary to ensure thelong-term stability of an effective international investment regime.MAURITS LuGARD*ReporterSee David Scanlan, U.S. Companies Used Pesticides Banned at Home, S.F. CHRON., Mar. 15,1994, at Al.9 See Final Prospectus of Teldfonos de Mdxico, SA. de C.V. 37-38 (May 11, 1992).'0 See Chua, supra note 1, at 292-303.* L.L.M. candidate, University of Michigan.

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Foreign Investment Cycles in Emerging Economies

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