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The company behind Keystone XL says the US owes it $15 billion under NAFTA

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This week, the Canadian company behind the Keystone XL pipeline made a move that activated progressives' worst fears about major trade agreements. Environmentalists won a major victory last year when they persuaded President Obama to veto construction of the pipeline, but now TransCanada has filed a claim arguing that under NAFTA it is entitled to $15 billion in compensatory damages for financial losses incurred as a result — a claim that will ultimately be decided by a private arbitration panel, not the American legal system.

Even if TransCanada wins, it doesn't mean the pipeline will get built — it will simply mean the US government has to hand over some cash. But a win for the company would have implications for future cross-border energy projects, undermining much of the underlying purpose of the anti-Keystone movement.

This has posed a bit of a dilemma for progressive leaders. On the one hand, they want TransCanada to lose, so they don't want to say the company is genuinely entitled to these monetary damages. On the other hand, this is exactly what progressives have been saying worries them about the Trans-Pacific Partnership and other new trade deals that contain investor protection provisions that could constrain America's ability to regulate business.

TransCanada says the rejection was arbitrary

The key to TransCanada's NAFTA claim is that, as the company said in a statement, it "had every reason to expect its application would be granted as the application met the same criteria the U.S. State Department applied when approving applications to construct other similar cross-border pipelines."

Indeed, any environmentalist in America would tell you that the rejection of the pipeline was the result of an intensive activist campaign rather than a simple case of business as usual operating smoothly. What changed between Keystone and Keystone XL, in other words, is that a president who is sensitive to political pressure from environmental groups took office, and those groups successfully pressured him.

Of course, noting that the political winds played a role in the decision shouldn't be enough on its own to let TransCanada prevail. But the company claims the decision to cancel the pipeline was merely a "symbolic gesture based on speculation about the perceptions of the international community regarding the Administration's leadership on climate change," rather than a bona fide environmental protection effort.

And it is true that in his statement rejecting the pipeline, Obama said approving the pipeline would undercut America's "global leadership" on climate change, and counterposed this to the fact that approving the pipeline "would not make a meaningful long-term contribution to our economy" and would not significantly lower US gas prices or improve energy security.

Putting it somewhat differently, Vox's David Roberts described the goals of the anti-Keystone campaign as a desire to delegitimize fossil fuel companies. The aim, in his view, was "creating a new default answer to fossil fuel infrastructure: no, unless a case can be made that the climate damage is worth it."

TransCanada argues that this amounts to an arbitrary discrimination against its business. Activists happen to have seized on this project, and the president gave in to them, so TransCanada is entitled under NAFTA to compensation for the financial losses it incurred as a result.

This case touches on the biggest controversy in trade policy

TransCanada is pursuing a related claim to this in US federal court. But its NAFTA case will be adjudicated by a private arbitration tribunal convened under Chapter 11 of the North American Free Trade Agreement — what is known as an investor-state dispute settlement process of a type that has become common in international trade deals.

The presence of ISDS provisions in an enormous multinational trade deal that the Obama administration struck with a range of Pacific Rim countries is the single biggest point of controversy around that treaty. ISDS provisions are common in trade agreements, and have been for a long time. They create what is, in essence, an alternative judicial system wherein foreign investors can argue that they're receiving unfair treatment and have the argument decided by an international tribunal rather than a local judge.

Writing about this controversy in November, Ezra Klein concluded that the ISDS threat was more theoretical than practical:

After reading a lot about ISDS provisions and hearing from both their supporters and detractors, I don't think ISDS is likely to matter much from the American point of view. Few ISDS cases are brought against America, and no one has ever won an ISDS case against America. The heat of this argument has more to do with the principles involved, and the larger passions over TPP and multinational corporations, than with ISDS itself.

A win for TransCanada in a high-profile ISDS case would obviously call that kind of thinking into question. The small amount of support TPP currently enjoys from congressional Democrats rests largely on Obama administration assurances that the kinds of things mainstream Democratic politicians would want to do would not be meaningfully constrained by ISDS rules. For the Obama administration to find itself on the wrong side of a multibillion-dollar ISDS ruling would be embarrassing, to say the least.

Conversely, a win for TransCanada would be a great "I told you so" moment for Elizabeth Warren and other liberals who've warned that this kind of thing might happen. Yet at the same time, TPP opponents are largely also Keystone XL opponents who don't really want to see the administration lose the case.

The odds are against TransCanada, but not impossible

Politics aside, financial analysts are skeptical that TransCanada is going to get its billions of dollars.

"Legally, the deck is stacked against them," Gary Hufbauer of the Peterson Institute of International Finance told Bloomberg News. Realistically, Hufbauer says, the company is more likely to get relief by hoping the next president rules the other way than by hoping a NAFTA panel rules in its favor.

A key issue is that TransCanada would have to demonstrate that its treatment was in some sense discriminatory, as if it had been denied approval under circumstances where a different company would have received it.

Experts consulted by the Canadian Broadcasting Corporation said the TransCanada claim wasn't entirely frivolous and certainly might prevail, but notes that "the odds are historically against TransCanada, as the U.S. has a 100 per cent winning percentage in NAFTA claims."

The bond ratings agency Moody's concluded that the litigation is a modest positive for TransCanada's creditworthiness, but described the financial upside to suing as "very uncertain."

One twist that could help the United States is the current low price of oil. The State Department's official assessment of Keystone concluded that construction of the pipeline was unlikely to materially impact oil production or carbon dioxide emissions.

The thinking was that at the then-current price of oil, the oil TransCanada wanted to ship through the pipeline was going to be extracted one way or another. The issue at hand was whether it would be transported by rail or by pipeline, with the pipeline option being cheaper and more profitable but no worse for the environment.

But the State Department also noted that given a lower price of oil, things might change, and the presence or absence of a pipeline option could be the difference maker in whether it was worth pumping the oil at all. With oil having now fallen to below $35 a barrel, the case that the pipeline has a material impact on the environment is now stronger.