12 December 2022

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The Australian Government is reportedly considering ways to limit foreign investment in critical minerals on the grounds of national security. As a nod to the 15 November conversation between Australian Prime Minister Albanese and China’s President Xi Jinping, which heralded a reduced animosity between the two nations, “China” is not openly mentioned in despatches by the Australian leadership as the focus of their concerns. One can imagine, however, which large trading partner’s investors may be targeted.

Moulis Legal special counsel Jessica Giovanelli outlines the treaty obligations that might disrupt Australia’s efforts at locking-up its desirable mineral resources from foreign hands.


The prize

Critical minerals is the buzzword for minerals considered to be essential for energy security, with “rare earths” being a subcategory. “Critical minerals” include familiar ores such as nickel, manganese and cobalt, as well as the less familiar, such as germanium. “Rare earths” revel in made-up words from the dreams of mad scientists, such as “neodymium”, “gadolinium” and “ytterbium”.

Wind turbines, batteries, magnets, electric vehicles, MRI machines, mobile phones – even COVID test kits – all rely on rare earths for their proper functioning. And, according to Australia’s Commonwealth Scientific and Industrial Research Organisation (CSIRO):

The statistics are that Australia might have something like 20% of the world’s supply of rare earths… that could go up quite considerably, once we start looking at some of these other deposits.


What protection is mooted?

Nothing concrete has been articulated yet. However, at last month’s Australian Critical Minerals Summit, Treasurer Jim Chalmers said:

Foreign investment is a good thing when it’s in our national interest. But as investment interest grows, and as the sources of that investment interest grow, we’ll need to be more assertive about encouraging investment that clearly aligns with our national interest in the longer term.

What can be meant by this, given the Australian Foreign Investment Review Board (FIRB) already has powers to recommend that the Treasurer should deny foreign investment on “national security” grounds?

The intention may be to suggest that keeping critical minerals out of the hands of certain foreigners equates to economic security, that economic security equates to national security, and that therefore a more "discriminating" approach in the way that Australia explains its treatment of investment approvals is required. Accordingly, we might expect that FIRB policy will be re-articulated so that allowable bans on investment are clearly able to extend beyond the confines of foreign state actors, critical infrastructure, and national security business/national security land, as these concepts are presently defined.


FTAs can regulate investment flows and allow retaliation

Are limitations on Chinese investment permitted under Australia’s FTAs with China, namely the China-Australia Free Trade Agreement (ChAFTA, in force 20 December 2015) and the Regional Comprehensive Economic Partnership (RCEP, in force 1 January 2022)? Would Australian restrictions breach its obligations at the State-to-State level, or run the risk of being sued by Chinese investors?

Investment chapters of FTAs often contain legally binding treaty-level commitments about how countries can and cannot treat foreign investors making an investment in the investment-receiving country. FTAs can also commit the parties to investor-state dispute settlement (ISDS), a process which allows foreign investors to sue the government of the receiving country directly.

One commitment usually included in FTAs is that governments must provide foreign entities or people establishing an investment or commercial presence in their country with treatment that is “no less favourable” than that accorded to nationals of their country in like circumstances, a concept known as “national treatment”. Another common commitment is that if a level of preferable treatment is provided by the receiving country to the nationals of a third country, it must be provided, in like circumstances, to the nationals of the investing country. This is known as “most favoured nation” treatment, or MFN.

Both ChAFTA (Chapter 9, Investment) and RCEP (Chapter 10, Investment) include these non-discrimination standards. In principle, these commitments would mean that if Australia allowed Australians or Koreans to invest in critical minerals, for example, it could not disallow Chinese investors that were in similar circumstances to make the same investments. ChAFTA also includes an ISDS provision, which allows investors to sue Australia directly.


FTA non-discrimination standards are not without exceptions

But, extracting retribution, like extracting critical minerals, might not be as easy as it sounds.

First, the ISDS provision in ChAFTA applies to “covered investments”.  This is defined as:

an investment in [either country’s] territory of an investor of the other [country] in existence at the date of entry into force of this Agreement or established, acquired, or expanded thereafter and which, where applicable, has been admitted by the host [country], subject to its relevant laws, regulations and policies;

Thus, a threshold issue for a foreign investor to traverse, should it wish to complain about the approval process, or about an order on the part of the Treasurer to divest itself of an investment, would be to show that the investment was established, or had been “admitted”.

Secondly, the FTAs include certain exceptions for investment. In both FTAs, Australia’s list of exceptions “carves out” Australia’s foreign investment approvals regime (in respect of all sectors) from national treatment obligations. The MFN obligation is not carved out. Thus Australia could negatively discriminate between Chinese investors and Australian nationals in operating its foreign investment approvals regime, but would not be excused for discriminating against Chinese investors to a greater degree than the investors of other countries.

Thirdly, any measure that Australia:

  • “considers necessary for the protection of its essential security interests with respect to proposals by foreign persons and foreign government investors to invest in Australia” (ChAFTA); or
  • “considers necessary for the protection of its [essential/own] security interests” (RCEP),

is carved out from national treatment and MFN obligations.


Are the FTA exceptions and limits entirely free from scrutiny?

Importantly, despite these exceptions, any unilateral decision by Australia to take action that is “necessary” for its national security would still be open to argument, whether by way of adjudication in a legal sense, or in a political setting that could damage Australia’s trade relationships and, in this sense, be inimical to Australia’s wider “national interest”.

WTO authority, based on the wording of the General Agreement on Tariffs and Trade 1947 underlying several of the security exceptions in the FTAs, is to the effect that even measures considered “necessary” for national or essential security can be contested.

In that dispute, Russia – Traffic in Transit, Australia submitted (as a non-combatant third party):

In reviewing the "necessity" of an action under Article XXI(b), a panel is limited to determining whether the Member in fact considers the action necessary, for example, by reference to the Member's statements and conduct. … although the nature and scope of review of the "necessity" aspect is limited, a panel does have a broader role in determining whether that (necessary) action was taken "for the protection of" a Member's essential security interests. In Australia's view, to arrive at such a determination, a panel should examine if there is a "sufficient nexus" between the action taken and the Member's essential security interests.

Australia further submitted that if the contested action is not capable of making some contribution to protecting the country’s essential security interests, then it would be reasonable to conclude it was not in fact taken for such a purpose.

On this view, discriminating against investors from a particular country would need to be capable of making a contribution to protecting the country’s essential security interests, and the country would in fact need to have considered the action necessary to so protect those interests.


New “spaghetti bowls” of trade and investment

It was fashionable to talk about the variety of new trade agreements that emerged after the Uruguay Round, including the 1994 WTO Agreements themselves and the numerous bilateral and regional FTAs that followed, as constituting a “spaghetti bowl” of rules. The biggest concern of trade commentators was that the “spaghetti bowl” would create complication and discrimination. However, it was not thought that countries would create less free trade or raise greater restrictions on foreign investment than before.

Environmental change, health risks, and the need to control technological developments in the interests of national security have challenged the lofty aspirations of the trade treaty writers of the last 28 years. Unilateralism in trade regulation, and trade security alliances rather than continued trade liberalisation, are the new trends.

This change can also be discerned in new trade and investment measures such as the European Union’s carbon border adjustment mechanism (CBAM), the United States’ Creating Helpful Incentives to Produce Semiconductors and Science Act of 2022 (CHIPS Act), Australia’s mooted price and export controls on coal and gas, and in newly defined security alliances (and, by extension, industrial alliances) such as the Quadrilateral Security Dialogue (Australia, India, Japan and the US) and the Australia – United Kingdom – United States Partnership (Australia, UK and the US).

Australia’s mooted new limits on critical minerals investment are explicable in this context. However, that makes them no more likely to be acceptable to trading partners like China. References in ChAFTA to the Parties’ desire “to strengthen their economic partnership and further liberalise bilateral trade and investment to bring economic and social benefits, to create new opportunities for employment and to improve the living standards of their peoples” and the investment chapter’s promise that the Parties would “progressively remove… non-conforming measures” would give grounds for disappointment and justify a sense of expectations not met. Indeed, in recent news, Australia’s preferential tie-up with the US under the Australia–United States Climate, Critical Minerals and Energy Transformation Compact may put even more heat on Australia’s economic and security relationship with its largest trade partner.

This memo presents an overview and commentary of the subject matter. It is not provided in the context of a solicitor-client relationship and no duty of care is assumed or accepted. It does not constitute legal advice.

© Moulis Legal 2022