PPMs Are Back: The rise of new sustainability-oriented trade policies based on process and production methods

A dispute (DS593) between Indonesia and the European Union (EU) has lingered at the WTO since 2019 over the EU’s Renewable Energy Directive II (RED II), which aims to increase the use of renewable energy in the bloc. However, this policy also includes a differentiation between sustainability levels of different biofuels and incorporates a decision to progressively phase out usage and imports of biofuels made partially or wholly from unsustainable production by 2030. It is this part of the RED II that Indonesia targeted in its complaint, arguing that the decision is highly discriminatory against its export-oriented palm oil industry, which is very active in the biofuels sector and would be subject to greater scrutiny under RED II. And Indonesia is not alone in that view: Malaysia initiated a dispute at the WTO in 2020 over the same policies adopted by the EU and certain member states (DS600).

What both of those disputes have in common is that they a) target a new generation of trade measures adopted by countries worldwide to reach sustainable development objectives and b) they are just the latest chapter in a long-standing debate at the WTO over the use of non-product-related processes and production methods. “Non-product-related PPMs” (called PPMs in this article) refer to the methods and techniques used to produce goods and services that may have an impact on the environment, human health, or animal welfare, but are not directly related to the physical characteristics or quality of the product itself, thus “non-product-related.” For instance, to come back to the palm oil and RED II example: in principle, sustainably produced palm oil, when measured by its physical characteristics, is as good as identical to palm oil produced on deforested land or while infringing human rights. When the production methods are taken into consideration, however, they might be perceived as substantially different.

Countries seek to promote sustainable development and address global challenges such as climate change and biodiversity loss.

PPM-based trade measures have become an increasingly important instrument in international trade in recent years as countries seek to promote sustainable development and address global challenges such as climate change and biodiversity loss. Examples of this new type of sustainability-oriented PPMs include production methods affecting the carbon footprint of a product, the use of environmentally friendly packaging, or the use of fair labour practices. However, using PPMs as a basis for trade policies has also raised concerns about discrimination and disguised protectionism, as countries may have different standards or priorities to regulate environmental or social issues. The recent WTO cases involving the EU are some of the best examples of the disputed nature of PPMs. But what is the role of the WTO in this?

PPMs in Trade Law and Policy

If a government introduces a regulation that distinguishes traded products along the lines of PPMs, WTO law comes into play—regardless of whether respective requirements are linked or de-linked from products’ physical characteristics. Nowadays, it has become well established that such regulatory distinctions based on PPMs are not a priori illegal under WTO law. In fact, there is quite a lot of jurisprudence on the issue that specifies the framework surrounding them (starting with Tuna–Dolphin, US–Shrimp; many others followed). And even though many PPMs imposed by countries failed to pass certain legal tests and had to go back to the drawing board, they have not been excluded in principle; rather, they did not comply with basic criteria.

Nowadays, it has become well established that such regulatory distinctions based on PPMs are not a priori illegal under WTO law.

Whether a specific trade measure can be considered WTO compliant depends heavily on the framing of its legal architecture. Depending on its setup, a measure may either fall under the scope of the General Agreement on Tariffs and Trade (GATT) or the Technical Barriers to Trade (TBT) Agreement of the WTO. What matters most, in case of the former, is to fulfill the so-called chapeau test. This test provides that a regulation must prove that its requirements are not unduly trade restrictive and are necessary to reach the targeted objective (the least trade-restrictive option to achieve the stated regulatory objective), and that they apply in a non-discriminatory manner. There are other requirements. For example, if a trade measure falls under the scope of the TBT Agreement, it must prove, among other requirements, that it is “necessary” to achieve a “legitimate policy objective” and that it is based on “international standards.”

Trade measures that follow the “spirit of trade law” will likely pass scrutiny.

Pursuant to an in-depth analysis of WTO law and jurisprudence, sustainability-oriented PPM measures have the best chance of withstanding WTO scrutiny when the concrete sustainability requirements are context sensitive, that is, flexibly tailored to cover various socio-environmental contexts and production conditions; conditions are equally applied to domestic producers and foreign producers; and they are designed in a proportional way (i.e., no more restrictive than necessary to reach the targeted legitimate objective). Trade measures that follow the “spirit of trade law” will likely pass scrutiny. When trade in sustainably produced goods is effectively facilitated—whether by lowering tariffs, expanding access quotas, or easing recognition of equivalence of certification schemes—they will likely be upheld as WTO consistent. To be equitable, conditions should be accompanied by adequate financial and technical support to vulnerable producers and developing countries. 

A New Generation of PPM-Based Trade Measures

Despite a mostly unsuccessful track record in ensuring full WTO compliance in the past, PPM-based instruments have been on the rise in trade policy-making in recent years. The main reason for this development is the target of these trade policies, as they predominantly address sustainability-oriented policy objectives. With growing awareness and concerns about environmental and social issues associated with global trade and supply chains, governments have seen a need to take more action in trade law and policy-making to address sustainability concerns. 

PPM-based trade policies are attractive to policy-makers seeking to respond to sustainability issues in global supply chains because they see them as a way to incentivize sustainable production practices. Some policy-makers also perceive PPM-based trade policies as a means to level the playing field for domestic producers who are subject to stricter sustainability regulations. As a result, many countries are exploring or have already adopted PPM-based trade policies to promote sustainability considerations while maintaining their international trade commitments.

This section discusses some recently adopted sustainability-oriented trade policies based on PPMs: forced labour import bans, deforestation-free supply chain regulations, and PPMs in regional trade agreements (RTAs). They have been selected as insightful examples of PPM-based trade policies pursued by different legislators, but they are not meant to be an exhaustive list of such policies now in place.

a) Forced labour import bans

The issue of forced labour and its prevalence in supply chains has become a major concern for international organizations, governments, businesses, and consumers. Forced labour can be used to produce a wide range of goods, including textiles, electronics, and food products. The  issue gained additional attention thanks to a 2021 statement by G7 trade ministers that called for “all countries, multilateral institutions and businesses to work together … to eradicate forced labour from global supply chains.” Several countries have started to adopt new or updated existing forced labour import bans to address this problem in global supply chains.

With the Tariff Act of 1930, the United States has already banned certain imports produced using forced labour for almost a century. Until February 2016, though, there was a major limitation on U.S. enforcement abilities under this act because of an exception that effectively allowed the importation of goods that had been partially produced by forced labour. In 2021, the United States adopted more stringent and targeted legislation under the Uyghur Forced Labor Prevention Act (UFLPA), which prohibits the import of goods mined, produced, or manufactured partially or wholly in China’s Xinjiang Autonomous Region. The United Kingdom’s House of Commons recently discussed a similar ban on the import of goods produced with forced labour from Xinjiang. Canada, the EU, and Australia have discussed similar legislation.

Any import ban on forced labour products must be tailored to WTO rules.

Most WTO member countries agree that any import ban on forced labour products must be tailored to WTO rules. To prevent the risk of non-compatibility with WTO law, such an import prohibition should be non-discriminatory against goods of a certain geographical origin. This implies a universally applied ban on both imports and exports of products likely made with forced labour. An import ban would have a good chance of success if it provided a clear link to a legitimate policy objective and is well-supported by evidence that it is, in fact, the least trade-restrictive instrument to achieve that objective. This means it would satisfy all the requirements under the chapeau test. Contrary to the UFLPA, which establishes a rebuttable presumption that forced labour affects all goods made in Xinjiang, or in whole or in part by entities that enable the use of forced labour, other proposals under discussion, such as the EU’s, make the burden of proof on a case-by-case basis and determined by competent authorities (in member states).

Overall, forced labour import bans are becoming an increasingly important tool for governments to address the problem of forced labour in supply chains and promote more sustainable and ethical trade practices. Whether such measures are WTO compliant very much depends on their framing.

b) Deforestation-free value chains

Deforestation and forest degradation are at the core of two planetary crises: biodiversity loss and climate change. The main driver was agricultural expansion, which was behind almost 90% of global deforestation. While the problems associated with commodity-driven deforestation have been well known for decades, large-scale political actions to tackle these issues stagnated until 2021, when more than 140 countries signed a pledge at COP 26 to halt and reverse forest loss and land degradation by 2030. To further address these problems, some governments have recently suggested regulations to reduce commodity-driven deforestation in global value chains.

While the problems associated with commodity-driven deforestation have been well known for decades, large-scale political actions to tackle these issues stagnated until 2021.

On November 17, 2021, the European Commission presented its proposal for a regulation on deforestation-free products, aiming to ensure that only “relevant commodities and products” that are deforestation-free, produced in accordance with the laws of the country of production (including human, labour, and Indigenous people’s rights), and covered by a “due diligence statement” are made available in or exported from the EU’s common market. Similarly, the United Kingdom adopted the 2021 Environment Act, laying down a framework to address deforestation in global value chains. According to the act, a regulated person must not use a forest risk commodity or a derived product in his/her commercial activities without complying with relevant local laws. Among other differences, the British act has a narrower scope than the EU proposal in that it focuses on “illegal deforestation” in producer countries only, the definition of which is left for producer countries’ legislators to decide.

These types of regulations are PPMs because they differentiate between commodities based on the applied production methods—namely those associated with deforestation (or not). Again, regarding WTO compliance, this very much depends on the concrete framing of the measures. Unilateral production requirements on traded goods will often fall under the category of “technical regulations” (even though the EU regulation also incorporates a form of an import ban) and hence fall under the TBT Agreement. Under both the GATT and the TBT, legal compliance is more likely if production requirements are based on international standards, such as those developed by the UN Food and Agriculture Organization, to ensure consistency and coherence with other regulatory frameworks.

c) PPMs in regional trade agreements

To date, PPM-based measures have only rarely been included in bilateral and plurilateral RTAs, despite the fact that including such measures in RTAs would present a more direct alternative to ensure WTO compliance than unilateral trade policies. This is because under RTAs, WTO members face less scrutiny when it comes to WTO compliance, as long as minimum requirements for RTAs are fulfilled.

Including such measures in RTAs would present a more direct alternative to ensure WTO compliance than unilateral trade policies.

A recent prominent example is the 2018 European Free Trade Association (EFTA)–Indonesia Comprehensive Economic Partnership Agreement (CEPA). Its framework includes a complementary PPM-based tariff differentiation to support more sustainable ways to produce palm oil in Indonesia. CEPA’s Annex V includes tariff concessions granted by the EFTA countries to Indonesia. The schedule on tariff commitments on goods, commitments of Switzerland, states that raw palm oil of a certain category may benefit from preferential tariff treatment only if produced in a sustainable way. The annex includes the following specification in small print:

* Products of HS heading 15.11 and 15.13 imported into Switzerland under this Agreement shall meet the sustainability objectives as set out in … [this] Agreement.

To ensure traceability along the value chain, further requirements have been included in supplementary legislation, such as that the palm oil must be transported “in tanks of not more than 22 tonnes.” The EFTA countries also agreed to intensify cooperation—among other things, to help Indonesia establish inclusive and sustainable production and value chains in the palm oil sector.

In the face of harsh public criticism in the EFTA countries about “unsustainable” Indonesian palm oil production, the partner countries to the CEPA opted to go a step further and directly link sustainability criteria to trade concessions and technical as well as financial support. Actual implementation will reveal whether such mechanisms can truly foster sustainable and inclusive value chains in the palm oil sector. Much will depend on the returns that can be obtained for sustainable palm oil when benefiting from (limited) tariff reduction and on the control mechanisms that are put in place. 

Such a targeted approach is distinctive from the more conventional undertaking to pack sustainability requirements into trade and sustainability chapters without directly linking them to preferential tariffs for specific products. Generally, while bilateral and plurilateral RTAs tend to be less scrutinized in the WTO framework, they should still aim to follow the basic rules of international trade law to which most RTAs refer explicitly or implicitly.

Conclusion

WTO agreements and case law on non-product-related PPMs suggest that countries have some flexibility to adopt measures that protect legitimate public policy objectives, such as human health or the environment, if they are not arbitrary or discriminatory, are not more trade restrictive than necessary to achieve the objectives, call for context-based solutions, and apply a partnership approach.

Countries [should] have some flexibility to adopt measures that protect legitimate public policy objectives.

Notably, WTO jurisprudence is dynamic and continues to evolve. Under the influence of the 2030 Agenda for Sustainable Development, it increasingly supports measures that address social and environmental issues and is gradually shifting from a trade-liberalization paradigm to a more complex trade-regulation paradigm that also embraces trade and sustainability concerns. However, much will depend on how the principle of systemic interpretation as laid down in Art. 31.3.c of the 1969 Vienna Convention on the Law of Treaties will be considered in treaty interpretation in the future.

WTO jurisprudence is dynamic and continues to evolve.

The dispute between the EU and Indonesia over the RED II highlights the challenges of balancing trade and environmental objectives in the context of international trade agreements. It also underscores the importance of WTO rules in resolving trade disputes and ensuring that countries abide by their commitments under international trade agreements. 

For this new generation of PPM-based trade measures, the outcome of the EU–Indonesia dispute will be vital. And even if the RED II is found to be non-compliant with WTO law, it may help further narrow down the scope to design similar measures in the future and enable effective, context-based, and equitable approaches. However, observers and policy-makers will need some patience, as the panel for this dispute informed on February 24, 2023, that “in light of the complexity of the legal and factual issues that have arisen in this dispute, the Panel wishes to advise that it now expects to issue its final report to the parties not before the third quarter of 2023.”
 

Andreas Oeschger is a Junior Policy Analyst, Trade and Sustainable Development, at IISD. Elisabeth Bürgi Bonanomi is Head of the Sustainability Governance Impact Area at the Centre for Development and Environment of the University of Bern (Switzerland). 

For a more in-depth analysis of the PPM debate and newly introduced PPM-based measures, the authors recommend Baetens, F., Hoekman, B., & Mavroidis, P. C. (2023, forthcoming). Production requirements and WTO rules: The case of environmental and labor standards.