RESTRICTEDWORLD TRADE
ORGANIZATIONWT/WGTI/M/7
27 January 1999
(99-0277)
Working Group on the Relationship
between Trade and Investment
REPORT ON THE MEETING OF 25 AND 26 NOVEMBER 1998
Note by the Secretariat
1. The Working Group on the Relationship between Trade and Investment held its seventh
meeting on 25 and 26 November under the Chairmanship of Ambassador Krirk-Krai Jirapaet.
2. The agenda for this meeting comprised the following items:  (A) Further consideration of
Items I-IV of the Checklist of Issues Suggested for Study;  (B) Observer status for international
intergovernmental organizations;  and  (C)  The re port of the Working Group to the General Council.
A. FURTHER CONSIDERATION OF ITEMS I-IV OF THE CHECKLIST OF ISSUES
SUGGESTED FOR STUDY
Implications of the Relationship between Trade and Investment for Development and
Economic Growth  (Item I of the Checklist of Issues Suggested for Study)
3. The Chairman drew attention to a recently circulated Note by the Secretariat
(WT/WGTI/W/65) on "The Effects of Foreign Direct Investment on Development:  Technology and
other Know-How Transfers and Spillovers".
4. The representative of the Secretariat explained that this Note was a revision of the preliminary
informal Note which had been circulated in September as Job No. 5229 and which had been expanded
to include a more comprehensive discussion of empirical studies on different types of spillover effects
of foreign direct investment ("FDI"),  as reflected in section C of the Note.  The Note was intended to
be part of a broader study of the effects of FDI on development which was being prepared by theSecretariat pursuant to a request made by the Working Group  (WT/WGTI/M/5, paragraph 12).
5. The representative of the Philippines, speaking on behalf of ASEAN WTO Members
,  stated
that the Note in Job No. 5229 provided a balanced analysis of the spillover effects which might arise
from FDI.  His delegation shared the view expressed in this Note that the indirect effects of FDI on
development which arose from the diffusion of t echnology and other know-how were more important
than the direct effects of FDI,  and that one should consider not only the actual transfer of technology,
but also the spread of better managerial practices and the contribution of FDI to enhancing
competition in host country markets.  The emphasis on the technology-related spillover effects of FDI
was warranted in the light of the fact that most FDI originated from a small number of developed
countries which played a dominant rôle in the production of technology and that multinationalenterprises from these countries dominated the demand and use of technology.  In addition,  formal
technology transfer agreements had been shown not to be a significant channel for the dissemination
of modern and advanced technology.  The overall positive effect of FDI in respect of technology was
undeniable, whether these effects occurred through actual transfers, licensing or through spillover,
"contagion" or demonstration effects.  The point made in the informal Note on the importance of thelevel of development of a host country,  the level of local technological capabilities and the degree ofWT/WGTI/M/7
Page 2
competition in host country markets in harnessing spillovers was an issue for future consideration of
the development implications of FDI.  In this connection, he proposed that there be further study of
the issue of how technology spillovers occurred in developing countries in which domestic firms were
sometimes unable to respond to the innovation and competitive challenges introduced by
multinational enterprises.  This would also a llow the Working Group to explore means by which
linkages between multinational enterprises and domestic firms could be strengthened , inter alia ,
through the upgrading of human resources so as to enhance the capacity of domestic firms to absorb
the various spillover effects of FDI.
6. The representative of Mexico underscored the conclusions drawn in the Note in Job No. 5229
that the positive effects of FDI through technology spillovers varied depending upon the
characteristics and policies of host countries,  and that the existence of a competitive environment and
local technological capabilities was especially important in this regard.  This confirmed that the bestway to maximize the benefits of FDI was through the adoption of measures of a generic nature aimed
at improving the overall regulatory and economic environment by enhancing competition and
improving human skills and technological capacity.  If the overall framework for economic activity
was sound,  FDI enhanced competition in host countries and contributed to the dissemination of
technology and the upgrading of human skills.  Thus,  there existed a close complementarity betweenthe indirect effects of FDI and the characteristics and policies of host countries in their contribution to
technological development.   The conclusions drawn in this Note were consistent with the view which
had been expressed in the Working Group that there was a mutually supportive relationship between
liberalization of FDI  policies and the application of competition policies.
7. The representative of Venezuela stated that there was a need for further study of the
relationship between mechanisms for the transfer and diffusion of technology and the rôle of certain
types of performance requirements and incentives,  and that this relationship should be viewed in the
light of the imperfections of markets for techno logy.  Experience had shown that multinational
enterprises were perfectly capable of operating in  an environment where market-friendly performance
requirements were used to maximize technology spillover effects,  in particular where such measuresdid not relate to their core process technology.  Thus, the rationale of the prohibition contained in
several existing investment agreements and in the draft Multilateral Agreement on Investment of
performance requirements related to the transfer of technology and the promotion of research and
development activities in host countries was questionable.  The experience of a number of countries
had demonstrated that it was possible to promot e the transfer of technology by using perfomance
requirements and incentives which were market-oriented and which did not in any way involve
expropriation of technology.  In order to understand the key rôle of this type of performancerequirements and incentives,  it was essential to take into account the fact that markets for technology
did not correspond to the model of perfect competition,  but were typically characterized by the
existence of oligopolistic equilibrium and of barriers to entry by small- and medium-sized enterprises.
This necessitated the application of measures to level the playing field so as to enable such enterprises
to negotiate on equitable terms technology transfer agreements or to become part of alliances withother enterprises.  Investments by multinational enterprises were not only motivated by the objective
of profit maximization in regard to a particular investment,  but also by strategic considerations
concerning the maximization of profit from a more global perspective.  This strategic behaviour was
illustrated by the fact that, even where it was possible for a multinational enterprise to purchase inputs
in a local market, it often preferred to use inputs produced in production facilities which it owned inother markets to protect its dominant market position.  The existence of this type of strategic
behaviour in a context of oligopolistic equilibrium required the application of market-oriented
measures to promote the creation of linkages with domestic suppliers and to transfer technology.
8. The representative of the European Communities observed that,  if there was a propensity of
multinational enterprises to retain control over core  process technology,  this was because they were
concerned that transfer of this technology might negatively affect their competitive position.  It wasWT/WGTI/M/7
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therefore difficult to see how the application of performance requirements and incentives could alter
this.  On the other hand,  if the transfer of other types of technology was commercially rational, the
application of such measures was unnecessary.
9. In response to this observation,  the representative of Venezuela stated that,  while it was not
possible to demonstrate ex ante under what circumstances there was a need to apply incentives or
performance requirements to promote the transfer of technology,  it was possible to demonstrate that
these measures were not market distorting in an oligopolistic environment.  The identification of
market-oriented policies to promote technology transfer was an important area where the Working
Group could make a pragmatic contribution to finding common ground between developed and
developing countries and would address many of the concerns raised in the Group regarding the
development implications of FDI.
10. The Working Group took note of the statements.
The Economic Relationship between Trade and Investment  (Item II of the Checklist of Issues
Suggested for Study)
11. Statements were made on investment incentives and performance requirements and on the
relationship between investment and competition policy.  In addition, the Working Group heard a
statement by the representative of UNCTAD on the World Investment Report 1998.
Investment incentives and performance requirements
12. Introducing a written contribution (WT/WGTI/W/64),  the representative of Mexico stated
that, although it was often argued that fiscal investment incentives were useful to promote the
competitiveness of host countries,  to promote regional development,  to correct market failures and to
realize positive externalities associated with FDI,  in most cases the use of fiscal incentivesrepresented a second best solution as there existed more efficient alternatives to attain the desired
objectives.  For example, regional development objectives were more efficiently attained by
increasing spending on physical and human capital in a particular region.  Where incentives were
granted to compensate for regulatory distortions,  th e first best solution obviously was to reform the
relevant regulations.  The use of incentives aimed at achieving positive externalities of foreigninvestment raised the difficulty of calculating the externalities and the appropriate level of incentive,
and entailed a risk that the costs of incentives exceeded their benefits, especially where various
countries competed to attract a particular investment project.  In sum, in most cases the use of fiscal
incentives was not justified on the basis of efficiency and equity criteria and the preferable course of
action was to correct, rather than to compensate for,  structural or regulatory failures.  On the other
hand,  fiscal incentives entailed significant costs and distortions.  Since empirical studies had shown
that investment decisions were often made irrespective of the availability of fiscal incentives, thegranting of such incentives involved an unnecessary  cost.  In addition, to the extent that fiscal
incentives did play a rôle,  there was the risk that investors enjoying temporary incentives would
attempt to obtain them on a permanent basis.  Likewise, if there was positive discrimination in the
granting of fiscal incentives to foreign investors, domestic firms would attempt to obtain similar
benefits.  Other important negative effects of fiscal incentives arose from the erosion of the tax baseresulting from fiscal competition between countr ies and between different levels of government
within countries, the distortions of economic activity due to the fact that the granting of fiscal
incentives to certain sectors amounted to a tax on other sectors, and the distortions of international
trade.  In the latter regard, she stated that there was both an indirect and a direct distortionary effect of
fiscal incentives on international trade.  The indirect effect arose from the impact of fiscal incentiveson FDI flows.  Given the close relationship between  trade and investment, fiscal incentives which
resulted in an inefficient allocation of investment,  also resulted in a distortion of international trade.
Since not all countries had the financial resources to compete for FDI, the use of fiscal incentivesWT/WGTI/M/7
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resulted in a diversion of investment and trade in favour of countries which could afford to grant such
incentives.  Fiscal incentives could also have a dire ct impact on international trade, such as when they
were geared to influencing certain operational margins, for example fiscal incentives linked to
production for export.  The trade effects of such fiscal incentives were similar to the trade effects of
performance requirements, with which they were often used in conjunction.
13. The representative of the Dominican Republic stated that, although the application of
measures to resolve structural economic problems was essential to attract FDI, this often required time
and involved difficult political decisions.  He emphasized the need to analyze the issue of the use of
investment incentives within a proper historical perspective, which was particularly relevant to the
development implications of incentives.  Thus, for example while reference had been made to the
Agreement on Subsidies and Countervailing Measures and the TRIMs Agreement as relevant WTO
instruments, this matter should also be viewed in the light of rights of developing-country Membersunder the provisions of Part IV of the GATT.  Th e historical perspective was essential to understand
the positive rôle which incentives could play in the process of economic diversification in developing
countries where colonization had often engendered a specialization on a narrow range of
commodities.  In this regard, he mentioned the positive experience of the Dominican Republic with
the granting of investment incentives in the contex t of free zones, which had resulted in substantial
growth and diversification of exports and the creation of employment.   The importance of incentives
was demonstrated not only by their widespread use in developing countries but also by the fact that
many developed countries had actually developed as a result of successful incentive policies, and that
these countries continued to use incentives, fo r example in the context of local and regional
development programmes.  The Secretariat Note in WT/WGTI/W/56 provided ample evidence of thisrôle of incentives as an effective development policy instrument which had allowed countries to
diversify their export capability and integrate more effectively into international markets.  Given the
value of incentives as a market oriented instrument of development policy, a cautious approach was
warranted in regard to possible initiatives in the WTO.
14. The representative of the European Communities expressed support for the view that
investment incentives were not a major factor influencing business decisions as to the location of
investments between countries.  However, this did not mean that incentives did not have effects.
Experience showed that they had largely negative effects in terms of distorting investment and trade
flows.  The effectiveness of existing WTO rules on subsidies in remedying the distortive effects of
incentives was limited. These rules came into play only when goods were being traded,  but did not
address the root problem of the impact of incentiv es in creating uneconomical investment.  He further
stated that the first best policy option for countrie s wishing to attract investment was to improve the
overall regulatory and economic environment, which was also important to stimulate domestic
investment.  Thus, for example, with respect to incentives aimed at regional development objectives,
the first best policy was to strengthen the general regulatory and economic infrastructure in particular
regions.  However,  it had to be acknowledged that this was not always realizable in the short term.  It
was therefore understandable that governments often decided to subsidise the location of firms inparticular regions, but it was necessary to bear in mind that this was a second best solution and that,
notwithstanding the important social objectives which might be served by the granting of such
incentives, their use inevitably involved a cost in terms of economic efficiency.
15. The representative of the Philippines,  speaking on behalf of ASEAN WTO Members
, drew
attention to the point in the Secretariat Note in WT/WGTI/W/56 that,  because of severe data
problems,  not much systematic evidence existed on the impact of incentives and performance
requirements on international trade,  and that interview studies were obviously inferior to systematic
statistical analysis.  In light of these significant limitations,  there was nothing doctrinal that could be
concluded on this issue.  His delegation considered that the arguments put forth against the use of
investment incentives did not detract from their usefulness as developmental policy instruments,  andthe fact remained that incentives could help attract growth, income and employment-creatingWT/WGTI/M/7
Page 5
investment.  In support of this view,  he referred to an empirical study which showed that in the case
of the Philippines the capital inflows associated with foreign investment by enterprises which had
been granted investment incentives was 27 times larger than the amount of the incentives granted.
Other countries had experienced benefits of roughly similar magnitudes.  Many of the problems which
were alleged to arise from the use of incentives could be adequately addressed through astrengthening of the administrative capabilities of host countries.  He reiterated that some views
expressed on investment incentives seemed to be internally contradictory in that it was argued, on the
one hand, that investment incentives often resulted in distortions of investment and trade and, on the
other, that incentives did not play a major rôle in location decisions.  With reference to the Secretariat
Note in WT/WGTI/W/56,  he also observed that dissimilarities between investment promotion
strategies of individual countries mainly concerned the choice of incentives.  Developing countries
mainly used fiscal instruments, such as tax holidays, while developed countries mainly used financialincentives, including cash grants.  As pointed out in this Note, this reflected differences in wealth, as
the developed countries could afford to use up-front subsidies to pay for some investment whereas
developing countries could, at best, afford to ease the tax burden ex post .  These dissimilarities as
regards the type of incentives granted were an  important element in any consideration of the
development dimension.  He emphasized that attention should be paid to the granting of incentives atall levels of government, including regional and local governments.  With respect to performance
requirements,  he considered that the Secretariat Note could have taken a more dynamic approach in
its analysis by considering that performance requirements were made known a priori  to the investor
and/or the home country.  Thus, when the investor  decided to proceed with an investment project
knowing that there were performance requirements attached to the project, this meant that the projectwas viable despite the performance requirements.  Like investment incentives, performance
requirements, applied within the parameters of present WTO rules, were an important developmental
tool for developing countries.  In commenting on the point in the Secretariat Note in WT/WGTI/W/65
that incentives and performance requirements might divert attention from general policy reforms,
including trade reforms, which would improve the investment climate,  he observed that the
overriding policy objective of most, if not all governments was to improve the investment climate
precisely through policy reforms.  In this sense, incentives and performance requirements played a
very useful but only compensatory rôle and were not used to avoid necessary policy reforms.
16. The representative of the United States stated that further work was required on the issue of
investment incentives.  She also observed that, when analysing the issue of performance requirements
in this Working Group, one should be careful to  recognize commitments already acknowledged by
Members, for example in Article III of the GATT and the TRIMs Agreement.
17. The representative of Japan agreed with the point in the Secretariat Note in WT/WGTI/W/56
regarding the difficulty of assessing the costs and benefits of investment incentives. He further
observed that performance requirements deprived enterprises from the flexibility needed to adapt to
changing economic circumstances, and that performance requirements and incentives created
distortions not only in international markets but also in domestic markets of host countries, insofar ascompetition between different investors was distorted when investments made at different times were
subject to different requirements and incentives.
18. The representative of Hong Kong, China stat ed that the unrestrained use of investment
incentives to attract foreign investment posed problems in terms of economic efficiency for several
reasons.  First, the offer of incentives was usually selective and discretionary, and different foreigninvestors might be given different treatment.  Second, the use of incentives might cause distortions in
international trade and investment flows and in allocation of resources.  Third, incentives were often
offered as compensation for inadequacies in the investment environment, e.g., limited market access,
performance requirements and insufficient infrastructure.  The prevalence of incentives would slow
down the liberalisation and improvement of the investment régime concerned.  However, someinvestment incentives might only affect the distribution of benefits rather than the existence ofWT/WGTI/M/7
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benefits.  Besides, some Members would continue to  use, rightly or wrongly, investment incentives as
a policy tool to meet their development needs.  It therefore did not appear possible to call for the
prohibition of all investment incentives in the WTO context at this stage.  A more appropriate
approach might be to explore ways to discourage Members from engaging in unhealthy competition
in the use of investment incentives and to minimize the distortive effects of investment incentives.  Itwould also be useful to explore the criteria to differentiate objectionable and non-objectionable
investment incentives.  In this connection,  WTO Me mbers' experience in classifying actionable and
non-actionable subsidies under the Agreement on Subsidies and Countervailing Measures might be
relevant.  Two broad principles could help minimize the distortive effects of investment incentives.
First, the application of investment incentives should be based on the principle of non-discrimination
so as to minimize distortions arising from favouritism towards foreign or domestic enterprises.
Second,  it was necessary to ensure maximum transparency in the dissemination of information ofinterest to investors including the forms and amount of incentives which had been or would be
awarded and the criteria for the award.  With adequate knowledge of the investment incentive granted,
prospective investors would be better able to assess the real costs and benefits of the investment
projects, which would in turn facilitate them to make the correct investment decisions.
19. The representative of Venezuela stated that,  in analyzing the rationale of investment
incentives and performance requirements,  it was necessary to distinguish between specific policy
objectives.  Investment policy could be aimed at simply attracting investment or at economic
modernization, the creation of linkages and the increase of an economy's competitiveness through a
process of technological innovation.  The use of inve stment incentives to attract investment without
significant spillover effects, such as investment in  the exploitation of natural resources, was generally
not a sound policy.  By contrast, the use of investme nt incentives aimed at attracting investment in a
particular stage of the production chain so as to create linkages with other sectors had been
demonstrated to have positive effects.  Likewise, while trade-related performance requirements, such
as local content measures, had been demonstrated not to have positive effects, performance
requirements relating to transfer of technology, the promotion of research and development and thepromotion of alliances between foreign and domestic firms generally had been shown to have positive
effects.  If applied in a market-friendly manner, performance requirements with regard to transfer of
technology and the conduct of research and development could also be viewed as indirectly
contributing to the attainment of objectives of competition policy, insofar as they facilitated access to
technology by firms, including small- and medium-s ized firms and to economic diversification.   To
illustrate these points regarding the beneficial impact of certain types of investment incentives and
performance requirements,  he referred to Venezuela's experience with the granting of incentive-related performance requirements with a view to pr omoting alliances between international firms and
domestic firms in the oil industry, which had resulted in a significant increase in the capacity of the
domestic firms to export services and capital goods.  He also mentioned the positive experience in the
automobile industry of Venezuela where incentive-related performance requirements were proving
successful in helping the development of domestic subassembly facilities through the creation oflinkages with foreign investors. In sum, market-friendly performance requirements related to
incentives aimed at facilitating transfer of technology and research and were an effective and
legitimate instrument to ensure the benefits from  the contribution of FDI to technological capacity
building of host developing countries.
20. The representative of the European Communities responded to the comment by the
Philippines on the alleged contradiction between th e view that incentives were not fundamental
determinants of investment decisions and the view that they could have trade and investment
distorting effects by saying that investments could benefit from incentives even where the availability
of the incentives was not a factor in the choice of the location of the investment.  In such a situation, a
trade distortion resulted from the fact that the goods produced by the investment had benefitted froman artificial competitive advantage.WT/WGTI/M/7
Page 7
21. In response to a comment by the Dominican Republic, the representative of Mexico stated
that,  while it might be true that structural reforms were sometimes difficult to implement, the use of
investment incentives carried a risk of delaying necessary structural reform.  The fact that some
Members had pointed to positive experiences with the granting of incentives, while others had had
negative experiences with incentives, underscored the need for further study in the Working Group ofthe costs and benefits of incentives.  It should be acknowledged that the issue of regional development
incentives was delicate, as illustrated by the existence of special provisions on regional development
subsidies in the Agreement on Subsidies and Countervailing Measures. More generally,  an important
theme for further work was the question of whether certain types of incentives warranted different
treatment.  In response to the comment that a strengthening of institutional capabilities would address
most of the problems associated with incentives, she stated that this argument did not address the
problem of the distortions created by the granting of investment incentives in a context of competitionbetween governments to attract investment.  This problem could only be effectively addressed in a
broader, international perspective. With regard to the argument that there was a contradiction between
the assertion that incentives distorted investment and trade and the argument that they were not a
major factor in location decisions, she stated that incentives were not a fundamental factor in
investment decisions,  but played a secondary rôle in a marginal context where all other circumstanceswere equal between potential investment sites.  Ho wever, to the extent that they influenced the
location of investment,  they also distorted trade fl ows.  Regarding the point that incentives aimed at
specific policy objectives might be beneficial, she drew attention to the concept of specificity, which
was a key criterion for the applicability of WTO rules on subsidies.  The point that certain types of
incentives were perhaps less distortionary than others indicated the need for a more detailed study ofdifferent kinds of incentives .
22. The representative of New Zealand stated that incentives acted to redirect economic activity
either within an economy or between economies.  As a result, while investment incentives were often
used in an attempt to stimulate job creation, attract investment to a particular region or encourage the
development of specific industries, such redirection of economic activity was likely to be at theexpense of economic growth in other areas of the economy.  Incentives therefore represented a
subsidy to the recipient and an implicit tax on othe r activities in the economy.  The implications of
this were that, where the disruptions to investment decisions created by incentives caused investment
to flow to inefficient sectors, both national and global welfare was reduced.  In this connection, she
noted that New Zealand had maintained a range of tax incentives up to the mid-1980s.  These
appeared to have the desired effect in boosting investment in general and in particular sectors.  Yet
economic growth had languished.  The quantity of investment might have been high, but that had notalways been the case with the quality.  There had also been a high fiscal cost associated with the
provision of incentives.  In 1984, New Zealand had begun removing incentives and reforming the tax
system to reduce tax-induced behaviour.  These reforms had made a significant contribution and the
level of investment in New Zealand, both domestic and foreign, was high. Competition in the
provision of incentives might result in more negative impacts for all countries than would be the caseif incentives were absent.  This was well illustrated in the "prisoners dilemma" examples that had
been given in some contributions.  This suggested that, despite the welfare gains from unilateral
removal of distortionary incentives, addressing the issue through a multilateral body might make it
easier for individual countries to take that action.  While the Agreement on Subsidies and
Countervailing Measures contained disciplines on subsidies at the point of production (i.e., thosedistorting outputs), incentives, which were effectively subsidies which distorted inputs, currently fell
outside the framework of multilateral disciplines.  It would seem appropriate therefore for one
element of further work in this area to be an ex amination of the way in which the multilateral system
had sought to discipline output subsidies under the Agreement on Subsidies and Countervailing
Measures.WT/WGTI/M/7
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The relationship between investment and competition policy
23. The representative of the European Communities introduced a written contribution
(WT/WGTI/W/63) by stressing the need for libera l trade and investment policies and deregulation
policies to be supported by the establishment of a domestic competition policy and competition
authority.  First, an effective domestic competition policy ensured the existence of competition insectors not affected by trade and investment liberalization. Second, the success of demonopolization
depended upon the existence of sound competition in the demonopolized sectors. Third, a stable
framework of domestic competition policy was a key element in creating confidence on the part of
foreign investors in the regulatory framework of  host countries.  Competition policy was a more
efficient policy instrument than ex ante  mechanisms for screening foreign investment, which had
often entailed significant costs and had deterred foreign investment and technology transfer.  Since the
impact of foreign investment on the level of competition in host country markets could vary,  a case-by-case examination under competition law was necessary.  The existence of an effective competition
law was also necessary to address anti-competitive practices on the part of domestic firms which
could form obstacles to foreign investment.  In sum,  a domestic competition policy structure enabled
countries to increase the benefits to be derived from FDI,  and the benefits of implementing a
competition policy clearly outweighed its costs.  The complementarity between trade and investmentliberalization and competition policy had found expression in the GATS and a number of other
international agreements.  His delegation considered that the development of a multilateral framework
on both investment and competition policy would contribute to enhancing coherence, predictability
and convergence and would reinforce the multilateral trading system.
24. The representative of Hong Kong, China stat ed that the experience of Hong Kong, China
showed that the existence of a stable and transp arent non-discriminatory competition framework for
business did not necessarily require the existence of a domestic competition law.  The best approach
was to refrain from subjecting investment to inefficient and administratively burdensome screening
mechanisms.
25. In response, the representative of the European Communities stated that competition policy
should not be seen as another administrative procedure which could be used for purposes of screening
foreign investment.  Rather, competition policy was more efficient and less administratively
burdensome than screening mechanisms in addressing risks of negative effects of FDI on competition,
which was often mentioned as a rationale for screening mechanisms.
26. The representative of Australia stated that competition policy was a very useful instrument in
dealing with competition problems created by FDI,  but that this did not provide an argument in
favour of removing screening mechanisms.  As s hown by the significant inflows of FDI experienced
by Australia, it was the method of application of a screening mechanism, not the existence of such a
mechanism per se , which under certain circumstances could constitute a barrier to FDI.  If applied in a
transparent manner, a screening mechanism did not c onstitute an impediment to FDI.  Thus, it was
important to view a particular screening mechanism in the policy context in which it was operated.
The representative of New Zealand shared the view that the use of a screening mechanism was not per
se incompatible with a liberal FDI policy.
27. The representative of the United States agreed with the views expressed by the European
Communities on the need to implement an effectiv e domestic competition policy to support liberal
trade and investment policy and referred in this connection to the written contribution on the
relationship between investment and competition policy which had been introduced by her delegationat the last meeting (WT/WGTI/W/55).  In response to the comments made on screening mechanisms,
she stated that the use of a screening procedure was necessarily incompatible with the need to provide
non-discriminatory treatment to foreign investors.WT/WGTI/M/7
Page 9
28. The representative of the Philippines, speaking on behalf of ASEAN WTO Members, stated
that there was no substitutability between competition policy and the use of screening mechanisms
because, in addition to competition-related objectiv es, the screening of investment often served a
range of purposes, including sectoral, locational and development objectives.  His delegation
considered that the question of whether investment policies should be complemented by competitionpolicy could not be answered in general terms and that this needed to be assessed by each country
individually in the light of its circumstances.
29. In response, the representative of the European Communities stated that screening
mechanisms could indeed be used for a variety of purposes,  but that, to the extent the alleged
rationale for the use of such a mechanism was the need to address competition-related problems, the
use of competition law was more efficient.
30. The representative of Egypt stated that his country had used screening of foreign investment,
inter alia , for environmental reasons at a time when its administrative capacity to ensure compliance
with environmental regulations was not yet sufficiently developed.  The variety of purposes for which
screening procedures could be used underscored the need for further study on this subject in the
Working Group.
31. The representative of Brazil recalled that on previous occasions his delegation had pointed to
the need for further clarification of the meaning of the concept of screening of foreign investment.
32. The representative of the Dominican Republic stated that the point in the contribution by the
European Communities and its member States that the existence of an effective competition policy
was necessary to ensure the success of privatization and deregulation was supported by the experience
of a number of countries where privatization and deregulation had failed to produce the expectedbenefits because of abuse of market power by firm s with dominant market positions.  He also stated
that the provisions in the GATS on competition policy needed to be strengthened.   While specific
provisions had been developed in the context of basic telecommunications, the prevalence of anti-
competitive practices in many service sectors, for example tourism, meant that the absence of
adequate competition rules of a horizontal nature would pose problems in future negotiations underthe GATS.  In his delegation's view, the existence of a domestic competition law was not a necessary
condition for the negotiation of a multilateral set of rules on competition.  The TRIPs Agreement was
an example of a multilateral agreement which had be en concluded at a time when many countries did
not have relevant domestic legislation.  Finally, he observed that, in considering the relationship
between investment and competition policy, account should be taken of certain trade measures which
could distort investment, such as rules of origin and quantitative restrictions on textiles, and which
were not covered by competition laws.
33. In a comment on the points made by the Dominican Republic, the representative of the United
States expressed the view that the existing provis ions of the GATS on competition were sufficient.
UNCTAD World Investment Report 1998
34. The representative of UNCTAD, referring to the indent of Item II concerning the
determinants of investment,  drew attention to the recently published World Investment Report 1998.
In addition to analysis of global trends in FDI, the importance of mergers and acquisitions, and policy
developments at the national, regional, plurilateral and multilateral levels, the report contained a
special study on host country determinants of FDI.  This study focused on three factors.  The first of
these factors was the regulatory framework at the national, regional and multilateral level.  While the
regulatory framework could be extremely effective in a negative sense if FDI was not permitted, the
creation of an enabling framework for FDI was a necessary but not sufficient condition for FDI to
occur.  In light of the widespread trend towards th e adoption of more liberal FDI policies, it could beWT/WGTI/M/7
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argued that the relative importance of the regulatory framework as a determinant of FDI was
declining.  The second factor highlighted in the report was the adoption by many countries of
proactive policies to attract FDI, as illustrated by measures to reduce the cost of doing business and by
the establishment of investment promotion agencies.  As a result of these trends,  the rôle of economic
fundamentals as a determinant of FDI, which was the third factor analyzed in the study, wasbecoming  more important.  While in the past it was relatively easy to distinguish between market-
seeking FDI,  resource or asset-seeking FDI, and efficiency seeking FDI,  the tendency of
multinational enterprises to adopt complex competit iveness enhancing strategies meant that these
three motives for investment increasingly intermingled.  As a consequence, created assets, such as
technological capability,  had become relatively more important as a determinant of FDI, as compared
with traditional determinants such as market size and the presence of natural resources.  The declining
relative importance of the traditional determinants of FDI meant that it was no longer sufficient forcountries to enjoy one particular locational advantage, but that a range of advantages, including in
particular the quality of created assets, was necessary to attract FDI.
35. The Working Group took note of the statements.
Stocktaking and analysis of existing international instruments and activities regarding trade and
investment (Item III of the Checklist of Issues Suggested for Study)
36. The representatives of Peru and Venezuela  informed the Working Group of a symposium held
in Lima on 4-6 November 1998 on international investment agreements and their implications for
countries members of the Andean Community.  The symposium had been organized by UNCTAD
and the Secretariat of the Andean Community with  the support of the OAS.  The objective of the
symposium was to analyze existing investment agreements, and in particular their developmentdimension, with a view to enabling government of ficials of Andean Community member countries to
develop a better understanding of key issues in international investment negotiations.  The symposium
had been particularly useful in that it had enable d an exchange of views between countries from the
same region, which had similar interests concerning foreign investment issues and which were all
involved in various negotiations on investment, fo r example in the context of the FTAA initiative or
of bilateral investment treaties.  At the symposium, particular attention had been paid to the
development dimension of international investment agreements, to the treatment of the admission of
foreign investment, and to the transfer of technology and competition policy.  The symposium had
underlined the importance of continuing work by UNCTAD with regard to the development aspects
of international investment agreements.
37. The representative of the OECD stated that the OECD's Committee on International
Investment and Multinational Enterprises ("CIME")  had recently sponsored two special events with
non-member countries.  The first event was a conference organized in collaboration with the
Government of Hungary in Budapest on 16-18 Nove mber on the OECD Guidelines for Multinational
Enterprises.  This conference had taken place in the context of the launching of the formal review of
the Guidelines.  It had been attended by representatives of governments, business, labour and other
non-governmental organizations as well as by representatives of international organizations.  A greatdeal of interest had been expressed in how the Gu idelines could be made more effective, notably by
updating the chapter on labour and industrial relations, by addressing new issues such as human rights
and sustainable development and by strengthening the implementation procedures.  The issue of
extending the application of the Guidelines to multinational enterprises operating in developing
countries had also been raised.  A second recent event organized by the CIME with non-Membercountries was a workshop held in Bangkok on 9-10 November in cooperation with the Board of
Investment of Thailand on FDI liberalization, the financial crisis and multilateral rules on investment.
Representatives of ten Asian countries, several OECD Member countries, the European Commission,
the World Bank and the Asian Development Bank had attended the workshop.  Particular attention
had been given to recent FDI trends in Asia, the response of FDI policies to the financial crisis and theWT/WGTI/M/7
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economic benefits of FDI in the region.  The most significant conclusion from the workshop was that
FDI had played a very stabilizing rôle in the context of the current financial crisis.  Future events
organized by CIME with non-Member countries in cluded a workshop organized in collaboration with
the Government of Peru on FDI policy and investme nt promotion in Latin America, which would take
place in Lima on 15-17 December,  and a conference organized with the Government of theNetherlands on the policy interrelationships between FDI and the environment in a globalizing
economy which would take place on 28-29 January in The Hague.
38. The representative of the OECD recalled that  at the last meeting of the Working Group she
had indicated that the Negotiating Group on the Mult ilateral Agreement on Investment would resume
its work at a meeting on 21 October,  after a period of six months of consultation decided at the April
OECD ministerial meeting.  However, following the announcement by one delegation that it would no
longer take part in the negotiations, the meeting had not taken place.  Instead, informal consultationshad been held which had confirmed the continuing support for the development of a multilateral
framework for investment and for engaging in further discussions with interested parties.  As a result,
it had been decided to hold an informal seminar on 2 December on multilateral investment rules with
representative of OECD Member countries and of business, labour and other non-governmental
organizations.  On 3 December,  there would be consultations among OECD Member countries andeight observer countries on related issues.
39. The Working Group took note of the statements.
Item IV of the Checklist of Issues Suggested for Study
40. The representative of Japan, in  introducing a written contribution (WT/WGTI/W/67), stated
that differences between bilateral investment agreements and a multilateral framework for investment
existed in three principal areas:  the negotiation of rules, the substance of rules and the use of rules.
With regard to the negotiation of  rules,  a distinction could be made between bilateral agreements and
a multilateral framework in terms of fairness and equity, efficiency and length of time of negotiations.
While the negotiation of a bilateral investment agreement, especially an agreement between a
developing country and a developed country might be affected by the unbalanced political andeconomic power relations between the countries in question, this risk was reduced in a multilateral
negotiation.  Even though there were differences between countries, obligations under a multilateral
agreement could be tailored to those acceptable to all countries.  A multilateral approach could enable
countries to take a progressive approach to liberalization.  The expansion of the existing network of
bilateral investment agreements was a more costly and inefficient approach to provide the necessary
legal framework for the growing globalization of ec onomic activity than the creation of a multilateral
investment agreement, which could be built on the common elements of existing bilateral agreements.However, the negotiation of a multilateral agreement was likely to take more time than the negotiation
of bilateral investment agreements.  With regard to differences between bilateral investment
agreements and a multilateral agreement in terms of substantive rules,  he stated that a multilateral
agreement could resolve the problem of the inconsistencies between bilateral investment agreements,
and that, by negotiating a multilateral agreement on investment in the WTO,  consistency ofmultilateral investment rules with the GATS, the TRIMs Agreement and other WTO provisions could
be ensured.  A multilateral agreement would also provide more scope for harmonization of rules and,
since changes to the rules would need to be agreed on by all parties, would result in greater
predictability of rules.  The periodical review of a single set of rules in a multilateral framework was
more efficient and less time-consuming than the review of the numerous existing bilateral investmentagreements.  He further stated that, compared with the many different rules contained in bilateral
investment agreements, the existence of a single set of rules in a multilateral framework would
enhance the predictability for investors,  and that dispute settlement procedures were likely to be more
fair and effective in a multilateral context than in a bilateral context.  The establishment of investmentWT/WGTI/M/7
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rules in a multilateral organization could also enlarge the geographical scope of application of such
rules as countries acceding to that organization would accept all its rules as a package.
41. The representative of the European Communities stated that another important advantage of
multilateral investment rules concerned the development dimension.  A multilateral agreement which
encompassed developed and developing countries would necessarily take into account theimplications of all of its provisions for developing countries, while ensuring mutual advantages and
increased benefits for all parties.  Such an agreement would therefore need to protect development
objectives, for example by allowing for specific derogations for developing countries.  The
desirability of a multilateral framework on investment also arose from the need for a more integrated
treatment of trade and investment in the same multilateral framework, the contribution which a
multilateral framework could make to consolidating the unilateral liberalization of investment regimes
which had occurred over the last decades,  the need to provide disciplines to avoid distortions arisingfrom the competition for FDI, the greater consiste ncy and effectiveness of multilateral rules,  as
compared to the diversity of the existing internat ional investment agreements, and the possibility to
build on established WTO principles and dispute settlement mechanisms.
42. The representative of Korea stated that, while the creation of multilateral rules on investment
was desirable,  this did not mean that multilateral rules should replace bilateral investment
agreements.  Rather, multilateral investment rules and bilateral investment agreements could be
complementary and mutually reinforcing.  It was doubtful whether a multilateral framework on
investment could remove all the deficiencies of bilateral investment agreements.
43. With reference to the contribution introduced by Japan, the representative of Pakistan stated
that,  to substantiate the argument that the establishment of a multilateral framework on investment
would entail significant benefits, especially when compared with existing bilateral investment
agreements,  it would need to be shown that su ch a framework would provide for the same degree of
flexibility as bilateral investment agreements for countries to pursue development objectives while
attracting foreign investment.  It was also necessary to address the point that there remained
uncertainty as to the benefits of such a framework in terms of stimulating flows of FDI and promoting
the transfer of technology to developing countries.  In this regard, he considered that the propositions
advanced so far in favour of a multilateral framework on investment were too general to be
persuasive.  The assertions that obligations under a multilateral agreement could be tailored to be
those acceptable to all countries,  and that the unique situation of each country could be
accommodated in such an agreement,  did not seem very plausible in the light of recent experiences in
multilateral negotiations.  Similarly, the view that a multilateral framework was preferable to bilateral
investment agreements because such bilateral agreements were affected by power relations betweenthe countries in question, was contradicted by the fact that the countries which were advocating
bilateral investment agreements were the developing countries.  Moreover, the idea that power
relationships would not come into play in a multilate ral context was questionable.  With regard to the
point that a multilateral agreement would contribute to enhancing predictability because there would
be less occasion for changes, he observed that if, as argued, bilateral investment agreements involvedan unequal power relationship, it was highly unlikely that such agreements would be the subject of
frequent changes.  In response to a comment by  the European Communities that rules on trade or
investment, whether in a bilateral or multilateral context could not guarantee an increase in trade or
investment flows,  but could only guarantee the existence of increased opportunities to trade and
investment,  he stated that,  while it was obvious  that no guarantee could be given that multilateral
rules on investment would lead to an increase in  FDI flows,  it was incumbent upon the proponents of
such rules to point out that the potential benefits  of such rules outweighed their potential costs.
44. The representative of the European Communitie s observed that the debate in the Working
Group on a possible multilateral framework on investment had been rather general because it hadWT/WGTI/M/7
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started rather late.  As part of the Group's future work, there should be a more detailed discussion on
various possible types of rules which could be provided for in a multilateral framework.
45. The representative of Costa Rica introduced a written contribution (WT/WGTI/W/68) on the
principles of national treatment and MFN treatment in investment agreements.  In respect of the
national treatment principle, a key question was whether it should apply to both the pre-establishmentphase and the post-establishment phase of inve stment.  Agreements which provided for the
application of national treatment to both the pre-establishment and the establishment phase of
investment generally adopted a negative list approach, which meant that the national treatment
obligation applied to all laws, regulations and sectors, except those which were the subject of explicit
reservations.  Such agreements also usually contained a prohibition of the introduction of new
measures incompatible with the national treatment pr inciple.  As an example of an agreement which
followed this approach, he mentioned the inve stment provisions contained in the Free Trade
Agreement between Mexico and Costa Rica.  These considerations regarding the application of this
principle to both the pre-establishment phase and the post-establishment phase, standstill
commitments and specific reservations also applie d to the MFN principle.  Exceptions to the MFN
principle were frequently provided for in regard to regional trade agreements and bilateral taxation
agreements.
46. The representative of Brazil stated that the contents of the national treatment principle, its
relationship to the MFN principle,  and the scope and nature of exceptions to national treatment
should be a central theme of further work in the Working Group.
47. The representative of the IMF introduced a contribution (WT/WGTI/W/61) on the IMF's
definition of FDI, which had been submitted in response to a request made by the Working Group at
its last meeting.
48. The representatives of Canada and the European Communities  noted that the IMF Balance-of-
Payments Manual stated that FDI was investment that reflected the objective of a resident entity in
one economy obtaining a lasting interest in an enterprise resident in another economy,  and that the
lasting interest implied the existence of a long-term-relationship between the direct investor and theenterprise and a significant degree of influence by the investor on the management of the enterprise.
In this respect,  they asked which criteria were us ed by the IMF to determine the existence of a lasting
interest and a significant degree of influence.
49. In response, the representative of the IMF stated that the concept of lasting interest was not
defined by the IMF in terms of a specific time-frame,  and that the more pertinent criterion was that of
the degree of ownership in an enterprise.  A percentage of 10 or above of ownership was often
deemed to reflect a lasting interest.  Although this criterion was specified in the Manual, some
countries might choose to allow for further qualifications which involved a degree of subjective
judgement.  Thus, if a direct investor owned less than 10 per cent of the ordinary shares or voting
power in an enterprise, but had an effective voice in the management of the enterprise, the investment
could be considered as FDI.
50. The representative of the European Communities,  referring to a contribution on the definition
of investment which had been introduced at the last meeting by Costa Rica (WT/WGTI/W/60), stated
that this contribution made an interesting distinction between FDI, portfolio investment and capital
movements which did not constitute real investment but mere financial transactions for speculative
purposes.  It would be interesting to have further precision as to what exactly was meant by this
notion of capital movements with speculative purpos es and how, in practice, such movements could
be distinguished from other forms of investment.  He noted, in this connection, that in the context of
the European Community's internal process of libe ralization of capital movements such a distinction
had been considered to be impossible to apply in practice.WT/WGTI/M/7
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51. The representative of Costa Rica stated that his delegation would revert to the question raised
by the European Communities at a future meeting.
52. The representative of the Philippines, speaking on behalf of ASEAN WTO Members, stated
that the definition of investment should be viewed in the light of the objectives of an investment
agreement, and that his delegation remained to be convinced that there was a need for investmentrules in the WTO.  Thus, the fact that ASEAN WTO Members had adopted a broad definition of
investment in the ASEAN Agreement on the Prom otion and Protection of Investments did not
necessarily indicate that they were advocating the use of an equally broad definition in the context of
this Working Group.
53. The Working Group took note of the statements.
B. OBSERVER STATUS FOR INTERNATIONAL INTERGOVERNMENTAL
ORGANIZATIONS
54. In the light of the ongoing process of informal consultations in the General Council,  the
Working Group agreed to maintain the status quo by inviting those organizations present at the
meeting to attend the next meeting on the same basis.
C. REPORT TO THE GENERAL COUNCIL
55. The Working Report adopted the descriptive part of its report to the General Council and
agreed on an ad referendum  basis on the text of a recommendation to the General Council regarding
the extension of the Group's mandate.  This recommendation was formally adopted on 7 December.1
__________
                                                     
1 The Group's report and recommendation have been circulated in document WT/WGTI/2.