On Wednesday, September 12^th, Professor Nicholas Howson will present “Dangerous Liaisons: China’s Indirect Investment Structures and the Shaky Foundations of “China Plays” on the Global Capital Markets.” The Berkeley Center for Law, Business and the Economy and the Center for Chinese Studies are cosponsoring the event. Lunch will be provided and CLE credit is available.

Professor Howson, visiting from the University of Michigan, will analyze the rise of “Variable Interest Entities,” an indirect method of investing in Chinese companies designed to circumvent Chinese government restrictions on foreign investment.  This investment form involves a foreign holding company creating a wholly owned subsidiary in China to effectuate the foreign company’s investment in a Chinese company.  The investment form, however, has proven risky for American investors.

Professor Howson will analyze the phenomenon as it has grown over nearly two decades, the way in which it underpins the great majority of apparently “Chinese” issuers raising money on the global capital markets, the very serious legal and financial risks arising from it, and several case studies where those risks have ripened into collapse or quasi-expropriation. Professor Howson will conclude with a discussion of the legal, professional and ethical obligations of corporate and securities lawyers and underwriters — Chinese and foreign — in connection with the structuring and facilitation of these transactions, and the introduction of such risk-laden issuers into the world’s capital markets.”

The event will take place in Boalt Hall, Room 110 at 12:45pm. Please RSVP to BCLBE@law.berkeley.edu.

With the development of new technology for drilling natural gas in shale formations, both economists and oil & gas experts are projecting shifts in American natural gas usage and supply. What does this mean for the energy market, American energy consumers, and environmental groups?

In 2010, natural gas generated 33.1% of the energy produced and 25.2% of the energy consumed in the United States. The United States Energy Information Administration’s (EIA) Annual Energy Outlook 2012 estimated that domestically produced natural gas will increase by 29% between 2010 and 2035 (from 21.6 trillion cubic feet in 2010 to 27.9 trillion cubic feet in 2035); while still highly speculative, almost all of this increase is attributable to projected growth in shale gas production.

This projected increase is in stark contrast to the turn of the millennium, when U.S. natural gas needs exceeded supply and U.S. companies invested billions into liquefied natural gas (LNG) import facilities. As recently as 2007, more than sixty LNG import projects were proposed in North America. Now, many of these same companies are moving to convert existing import facilities into natural gas exporting centers. Only one LNG export facility has received approval from the Federal Energy Regulatory Commission (FERC) and the U.S. Department of Energy: the Sabine Pass LNG export terminal in Louisiana.

Currently, experts are debating whether America should export natural gas to nations like South Korea and China. In January 2012, the EIA released a study analyzing the effect of increased LNG exports on domestic energy markets, concluding that exporting LNG would raise the price of natural gas domestically while increasing production. Proponents of increased exports (and lower regulatory hurdles) argue that exporting natural gas is vital to stabilizing the price of natural gas in the United States and to stimulating the economy in the long run. Opponents point to the EIA study, arguing that higher domestic prices for natural gas will slow the economy. Environmental groups such as the Sierra Club also oppose LNG exports, arguing that increasing natural gas exports will have negative environmental impacts due to the controversial “hydraulic fracturing” process used to extract gas from shale.

Both Republicans and Democrats are steering clear of this highly contentious issue. Unlike most black-and-white political issues, LNG exports affect not only U.S. consumers concerned with higher prices, but also America’s international allies, rivals, and largest corporations. Furthermore, it pits America’s traditional free-trade orthodoxy against the domestic need for cheaper and longer-term fuel solutions. The U.S. Department of Energy is currently finalizing a study analyzing the commercial effects of exporting LNG to worldwide markets, including China and other Asian economies. The DOE and FERC have declined to approve any more LNG export facilities until the study is released.

Who gets the water in the California Bay Delta has been a controversy spanning multiple decades primarily because of the estuary’s importance as a unique environmental habitat and as a valuable natural resource for Central Valley farmers. Near continuous litigation has spawned over the Delta’s designation as a “critical habitat” for a number of endangered species that live in the watershed like the Delta smelt and Chinook salmon. The Central Valley Project (“CVP”) is one of many Bureau of Reclamation water projects that divert northern California’s water from this watershed to Central Valley farmers. However, while these diversions provide necessary water to the agricultural industry, they simultaneously diminish the survival of endangered fish species.

Currently, environmentalists use the Endangered Species Act as the basis for lawsuits seeking to reduce the amount of diverted water. Reducing diversions helps fish species by inhibiting the spread of disease, lowering river temperatures to promote breeding, and increasing the optimal habitat range.

However, disputes arise when there is not enough water to satisfy user demands and protect endangered species at the same time. Drought has exacerbated this problem. For instance, the National Oceanic and Atmospheric Administration has found that recent weather patterns have caused the worst drought in America since 1956. Farmers have responded with increasing challenges to fish protection in order to receive their contractual water allocations from the state and federal water projects. For farmers, limitations on water supply create dire economic consequences, primarily felt by most Americans in the form of increased prices.  Additionally, farmers facing restrictive water allocations react by pumping water from wells, fallowing lands, and switching crops to less water-intensive plants. These usage restrictions negatively affect job creation, access to credit, air pollution, and consequently, the economic viability of central valley farming.

However, there are also economic consequences in satisfying cities’ and farmers’ demands for water.  For example, when salmon fisheries were closed due to lack of water during the early 2000s, California’s economy lost about $150 million.

This year, the drought has stretched beyond California affecting mid-west farmers. As grains become more expensive due to increases in water prices, farmers that rely on these grains to feed their livestock cannot afford to pay these skyrocketing prices, so they pass the expense along to consumers.

The constant polarization of this controversy has served only to make these water allocation disputes more adversarial than necessary. California has to recognize that choosing sides cannot be a viable solution going forward. Interests must be balanced to accommodate California’s growing water demand. If such a balanced solution is not reached, the consequences could be drastic going forward; especially considering California’s population is expected to exceed 40 Million by 2018.

California Governor Jerry Brown’s administration has proposed a plan to try to build a “peripheral canal” around the Delta to satisfy both water users and environmentalists. This next step in California’s water battle is an extensive environmental undertaking with the potential to restore many endangered species populations. However, the project also has a significant price tag ranging from 17 to 50 Billion dollars. The potential gains are plentiful, but critics argue that the price is too high and the positive effects are too uncertain.

Despite these concerns, it’s important that California moves forward in developing a solution that satisfies farming and environmental stakeholders rather than keeping the status quo. Policy makers must recognize that leaving controversial decisions such as this to the judicial system, as has been the tendency in the past, only undermines the state’s long term interests by creating long litigation and leaving important policy decisions to a judiciary ill-suited for the task.

With almost four months between now and the first carbon allowance auction, questions remain about the feasibility and economic impact of California’s Cap-and-Trade program. While the legal question has been resolved, some commentators have been critical about the consequences of California’s environmental policy path.

The California First District Court of Appeals case AIR v. CARB sheds light on recent legal attempts to derail California’s Cap-and-Trade regulations passed under California’s Global Warming Solutions Act, AB 32. As part of the AB 32 Scoping plan, Cap-and-Trade sets government mandated limits, “caps”, on major sources of greenhouse gas emissions from refineries, power plants, industrial facilities, and transportation fuels. The goal of the “cap” is to reduce greenhouse gas emissions to 1990 levels by the year 2020 by incrementally lowering the total amount of green house gases allowed to be emitted. The “Trade” aspect of the program refers to swapping allowances between participants that emit greenhouse gases. If a particular entity’s operations are over its allowances, that facility may buy or trade for extra allowances to increase its limit.

Legal challenges are not the only way opponents resist California’s institution of Cap-and-Trade program. Western States Petroleum Association (WSPA), in combination with Boston Consulting Group (BCG), recently published a study challenging the science and economic repercussions that this policy creates.  In a letter to California Governor Jerry Brown, Catherine Reheis-Boyd, President of the WSPA stated, “[t]he current fuels policies will have significant unintended consequences on California’s refiners, and consequently their employees, consumers and the state.” Brad Van Tassel, Senior Partner and lead researcher for the study, also commented, “California’s [Cap and Trade] policies pose some really impossible challenges for refiners in California that have the potential to disrupt fuel markets and fuel supplies in very serious ways.”

An example of these fuel market disruptions would be the institution of Carbon Intensity Reductions within the AB 32 Low Carbon Fuel Standard (LCFS) that requires facilities to use lower carbon intensity fuels. This mandate creates a 1% reduction in Carbon Intensity by 2013; a 5% reduction by 2017; and a 10% reduction by 2020.

The problem for fuel markets is that only cellulosic ethanol and Brazilian cane ethanol have low enough Carbon Intensities to materially reduce the Carbon Intensity of existing fuels. But cellulosic ethanol cannot be produced in sufficient commercial quantities with today’s technology, and Brazil does not produce enough cane ethanol to meet California’s demand at the specified CI, even if all of it were sent to California. This scenario would require 150% of the current supply of ethanol fuel from Brazil and could possibly stress fuel supply if there is high demand. Others have brought up concerns about the potential for market manipulation, non-compliance, and fraud; as has happened to California before with the electricity markets in 2000-2001.

Despite these concerns, California policy makers have not changed their minds with respect to Cap-and-Trade’s pending institution. Whether it is a belief in California’s capacity to adapt to certain market stressors or the inability to reverse the charted course, none can say for certain. What is certain is that California is heading into uncharted territory, and as in all transitional periods of policy, certain set backs are to be expected. The question then is how many of these set backs are Californians willing to endure in order to preserve California’s environmental image and the benefits of Cap-and-Trade.

Is Facebook a force that will define a generation? Or is it a transient manifestation of the bigger social media revolution – springing from the demand to connect using the latest technologies?  While Facebook’s cultural impact raises such philosophical questions, its business model and recent IPO have raised legal questions that are likely going to take just as long to answer.

Throughout Facebook’s history, it has sought to balance its social and corporate missions. In a letter to prospective investors during the IPO process, Mark Zuckerberg remarked that Facebook was built “to accomplish a social mission” of creating a more connected world. Arguably, Facebook has fared well in its social mission. Through the power of networking, Facebook has helped connect diverse populations, crossing geographical, ethnic, and cultural boundaries. In some cases, Facebook even has helped facilitate revolutions. Not surprisingly, Facebook also is in a position to foretell where Internet usage is trending. Through placing certain advertisers in users’ newsfeeds, Facebook has shown the ability to increase traffic to advertisers three-fold.

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The United States is restarting Bilateral Investment Treaty (BIT) negotiations with BRIC countries (Brazil, Russia, India and China) after a recent revision to the United States’ model BIT.  On April 20, 2012, the Office of the United States Trade Representative (USTR) released the new 2012 model BIT after a lengthy three-year review and revision process.

BIT negotiations with the United States, until recently, had been on hold since 2009.  Upon taking office in 2009, President Obama immediately called for a review of the model text to ensure its consistency with the “public interest” and the Administration’s overall economic agenda, as well as to make certain that “U.S. companies benefit from a level playing field in foreign markets.”

BITs are bilateral agreements between two States aimed to protect private investors (either companies or individuals) of one State operating in the territory of the other host State.  BITs entered into by the United States, unlike Free Trade Agreements (FTAs), have tended to address a more limited number of issues by focusing on treatment of foreign investment once a host State has availed itself to such investment rather than regulating access of foreign investment into the host State.

The United States often takes a hard stance in negotiating BITs, insisting that other countries accept the provisions of its model text.  The model text was last revised in 2004 after President Bush took office.  The United States is currently a party to 46 BITs, including six that have been signed, but not ratified. Worldwide, 178 economies have entered into more than 2500 BITs.

United States BITs are important tools for protecting overseas investment. BITs protect United States companies and individuals investing abroad or facing adverse actions from a host State while invested abroad.  The United States model text aims to afford investors national treatment or most-favored nation treatment, compensation in the event of expropriation, and protections against currency inconvertibility of funds into and out of a host State.  The model text also provides restrictions against imposing performance requirements onto investments, as well as the rights to select top management regardless of nationality and to submit an investment dispute to international arbitration, rather than being subjected to the host State’s domestic courts.

In updating the model text, USTR and the State Department solicited input on provisions relating to dispute settlement, state-owned enterprises, and financial services. Businesses, non-governmental organizations, Congress and the public provided comments. Among other stakeholders, the Advisory Committee on International Economic Policy (ACIEP), which includes Berkeley Law’s Professor David Caron, submitted a report regarding its view of the model text.  As Professor Caron described “the deep challenge for the State Department in considering the many viewpoints expressed was to work at questions of expertise while simultaneously also weighing fundamentally different philosophical and political values.”

The 2012 model BIT made some changes as a result of perceived shortcomings in the prior text.  One such change is that obligations under BITs also extend to entities that are delegated (through formal and informal means) governmental authority, which clarifies concerns that state-owned enterprises were receiving preferential treatment relative to foreign investors. (Article 2.2.a footnote 8).  Another such change relates to prohibitions against performance measures that require an investor to show a preference to 1) the host State’s technology and/or 2) any particular technology.  (Article 8.1.h). A further revision relates to transparency, requiring publication of regulatory actions and transparency into State regulatory matters.  The goal is to appraise investors of upcoming regulatory changes in host States. (Articles 11.3 and 11.4).   Lastly, the 2012 model BIT includes language that places obligations onto host States to recognize, enforce and not derogate from domestic environmental and labor laws (Articles 12.1, 13.1, 12.2, 13.2).  A full analysis of the revisions can be found here.

Ultimately, the Obama Administration declined to adopt many of the modifications proposed during the review.  The 2012 model BIT retains the core substantive investment protections, which include non-discriminatory treatment (Articles 3 and 4), treatment in accordance with customary international law (Article 5) and compensation for expropriation (Article 6).  The text also retained the investor-State dispute settlement clauses (Article 23-36), disappointing some critics of investment treaty arbitration.

Reactions to the new 2012 model BIT are sharply divided between those who want to protect domestic public interests and sovereign rule of law and those who want to protect U.S. investments overseas and eliminate foreign barriers.  The Administration appears to have spent a great deal of effort analyzing the provisions of the model text, but ultimately chose to preserve a similar balance as in the 2004 model.  Admittedly, this is a difficult balance.

While the revisions to the model text will not modify existing treaties, the new provisions will form the basis of future negotiations.  The completion of the new model BIT text seems to have renewed negotiations with both China and India.  Russia has also expressed interest in engaging in negotiations, and the US has sought to engage Brazil in beginning talks.  Other opportunities for negotiation also are emerging with various African countries.

[Note: Professor Caron’s quote added after initial publication]