Category: Trade

Garcia Sanchez on North American Energy Conflict

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A North American energy trade war may be on the horizon, according to Texas A&M Associate Professor Guillermo Garcia Sanchez, an expert on international investment and energy law. Under President Lopez Obrador (AMLO) Mexico has begun to reverse its prior policy of opening its energy markets, and foreign investors are alleging unfair and discriminatory treatment. The Canadian and U.S. governments began consultation procedures with AMLO’s administration but, after seventy-five days, failed to settle the dispute. The exhaustion of the consultation period triggers the first step in the dispute resolution mechanism of the new United States-Mexico-Canada Agreement (USMCA), which could lead to the establishment of arbitral panels and the suspension of trade benefits to Mexico.

Canada and the United States’ objections mark the first time foreign powers have challenged Mexico’s energy policies since 1938, when Mexico expropriated foreign oil and gas companies. They also may mark the beginning of a regional trade conflict—in the midst of the Russian-Ukraine conflict, unsettled energy markets, and global inflation that has reached its highest levels since the 1970s. Professor Garcia Sanchez’s article, In the Name of Energy Sovereignty, is one of the first to unpack the USMCA’s energy-related provisions and its dispute resolution mechanisms, as well as its place in the global debate around energy transition and security. The article will be published in a forthcoming issue of the Boston College Law Review and the abstract is below.

Throughout history, the phrase “In the name of the King” justified actions that trumped the rights of citizens in order to safeguard the interests of the Crown. Today, in the name of energy sovereignty, States deploy the government apparatus to access oil and gas in other parts of the world, build pipelines on private lands, subsidize renewable energy, and nationalize their oil and power industries. States justify each of these actions by noting that they create a sense of energy independence, ensure security, or achieve other social and economic goals. Energy, however, cannot be trapped in one “realm.” Its nature is to move across human-created jurisdictions and settle, at least in the cases of oil and gas, in specific geological formations where extraction is not always economically feasible. Additionally, energy evolves with technology advancements and its production must adapt to new challenges, like that posed by the global climate crisis. Thus, an efficient and reliable energy sector that “secures” the State requires engagement with other foreign powers to regulate the trade and investment of energy and its sources. States, however, have created a web of often inconsistent treaties, reflecting competing and frequently contradictory energy policy goals. When disputes inevitably arise, arbitrators or committees must balance the parties competing energy goals.

This Article introduces the concept of energy sovereignty as a novel analytical framework to explain the fragmentation and inconsistencies in international energy governance. By introducing archetypical energy sovereignties, this Article provides a framework for interpreters of trade and investment agreements to balance the competing energy goals that are attached to the agreements. In doing so, this Article demonstrates how ignoring the complexities in the way States exercise their energy sovereignties can undermine integrated regional efforts to deal effectively with energy challenges like reducing carbon emissions or building a cost-effective and resilient energy matrix. This Article uses the United States-Mexico-Canada Agreement (USMCA), the latest North American international trade and investment agreement, to show how the archetypical energy sovereignties conflict with each other and how its dispute resolution mechanisms may balance them.

Making the Most of a New Era of American Energy

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This year, the United States emerged from history’s biggest oil boom—this boom was more than an order of magnitude bigger than previous U.S. commodity booms and seven times bigger than the world’s biggest previous oil boom, which occurred in Saudi Arabia in the 1970s.

As a result, even with the 2020 oil bust, the U.S. produces more oil than any other nation. In 2019, America produced 65% more oil than #2 Saudi Arabia. And the U.S. is also the world’s biggest producer of natural gas and may soon be the world’s biggest exporter of liquefied natural gas. America is at the dawn of a new era as the world’s #1 energy producer.

My new line of research shows that, to maximize the benefit from this new bounty, oil & gas regulators should slightly slow production. Counterintuitively, slower production will benefit oil & gas companies by marginally increasing their cash flow and significantly increasing the long-term expected value of their assets. And slower production will also limit the environmental downsides of oil & gas and maximize the environmental benefits of natural gas.

Slower production counterintuitively helps oil & gas companies for two reasons.

First, although no individual company wants its production slowed, if companies were allowed to freely negotiate with each other, they would agree to cut back production simultaneously because slower production means higher prices and higher profits. As Adam Smith put it, “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in some contrivance to raise prices.” Antitrust law forbids them to negotiate a production slow down, because we usually prefer lower consumer prices. But oil & gas prices have been so low following the boom, sometimes even negative, that gas is just being wasted—flared off at thousands of wells across Texas and North Dakota. Regulators can stop this waste, which just harms consumers, by cutting back oil production. Modest production limits would also raise prices enough to increase overall cash flow to oil & gas companies immediately.

Second, oil and gas is a long-term asset, oil and gas that is wasted today could be worth a lot in the future. American oil & gas law pushes companies to drill and pump oil more rapidly than they would like—the rule of capture, common lease terms, and covenants implied into leases by the courts all make companies drill for oil when they would rather wait. But it makes no sense to rush to produce natural gas that will simply be flared, or to flood the market with oil at rock-bottom prices, when companies could simply wait to drill until prices recover. Modest production limits would somewhat mitigate the common law’s tendency to push more oil production than a truly free market would provide.

I explain these theoretical reasons for oil & gas production limits in my forthcoming Cardozo Law Review article, State Energy Cartels. I show how oil & gas production limits are actually an idea that came from the United States, and its oil producing states, during the Great Depression. And I show that production limits also have potentially massive environmental benefits: slowing carbon emissions, boosting renewable energy, and creating a counter-intuitive coalition of oil producing countries with a powerful interest in slowing fossil fuel production.

My own state of Texas will have to be a leader in negotiating any new coalition of oil producers to impose production limits. Because of the new oil boom, Texas now produces more oil than 12 of the 13 nations that comprise the Organization of Petroleum Exporting Countries (OPEC).

The Railroad Commission, Texas’s oil and gas regulator, has coordinated oil production limits before, as I explain in this EnergyTradeoffs.com podcast. In the years before and after World War II, Texas alone produced one quarter of the world’s oil and the United States together produced two-thirds. During these years, American oil powered recovery from economic catastrophe, victory in World War II, and the post-war global economic expansion. Texas played a leading role in limiting year-by-year oil production—so much so that when Middle Eastern countries moved to the forefront of oil production and formed OPEC, they described it as “a kind of international Texas Railroad Commission.”

My newest article, published in the Oil, Gas, & Energy Law Journal, shows how the Texas Railroad Commission can reclaim its mantle as the world’s leading oil & gas regulator and take initial steps toward cooperation on restraining production. I propose that it start by phasing in modest cuts in natural gas production to stop economic flaring and marginally raise oil and gas prices.

As I explain in this new Houston Chronicle op-ed, the Commission can improve its data collection to fine-tune its phase-in of new gas limits to ensure they boost industry cash-flow. I explain the economic and environmental benefits of this proposal at greater length in this recent video presentation on why it is the best method of stopping flaring, which is also embedded below.

The United States and Texas find themselves again at the center of global energy production. It is high time for them to carefully consider how they will maximize the economic and environmental benefits of this new bounty.

Lifting the Jones Act Ban on U.S. LNG Shipments

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The Regulatory Transparency Project has just posted a new video in which I debate George Landrith, President of the Frontiers of Freedom Institute, about the need to reform The Merchant Marine Act of 1920, colloquially known as the Jones Act. The video is below.

The Jones Act bans shipments between U.S. ports unless they’re made on a U.S.-built, U.S.-manned, U.S.-flagged, and U.S.-owned vessel. This protects American shipyards and American sailors from foreign competition, but it raises prices for U.S. producers and consumers.

The Jones Act is particularly bad for the United States’ red-hot liquefied natural gas (LNG) markets because the U.S. doesn’t build LNG carriers so the Jones Act effectively prohibits shipment of U.S. LNG to U.S. ports. The U.S. is exporting more and more LNG to Europe and Asia and will become the world’s number one LNG exporter in the next five years, according to the International Energy Agency.

U.S. consumers in New England and elsewhere often want LNG; in times of great need, they have even skirted U.S. sanctions to import it from Russia. But as long as the Jones Act applies to LNG shipments, no U.S. consumer will ever benefit from the massive U.S. LNG boom.

I have explained how I think the Jones Act should be reformed in a piece published by the Cato Institute & a piece published by the Regulatory Transparency Project.

As I explain in the video, there are many regulations that have high costs and high benefits, but the Jones Act ban on LNG transport is an example of a regulation with high costs and no benefits. It’s a great candidate for reform.

Eminent Domain for Exporting Energy?

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Eminent domain is the controversial exception to the general rule that no one can take your land without your consent. The Fifth Amendment to the U.S. Constitution allows the government to take your land for “public use” so long as it pays you fair compensation.

But what is a public use? Should pipelines and power-lines that help companies export energy to other states and countries count as a public use? Is it legitimate for states to let energy transport companies use eminent domain to serve the public in other states or countries?

This issue—”which public?”—is an increasing focus of litigation across the United States because many state laws and constitutions, like the federal constitution and federal laws, limit eminent domain to projects that serve a “public” purpose. At the same time, increasingly integrated North American energy markets mean that more and more electricity, oil, and gas are crossing state and national borders.

Just last Friday, the Iowa Supreme Court held that sending oil to neighboring states can count as a public use. But there is also a broad movement for a go-it-alone eminent domain policy, including court decisions in West Virginia and Kentucky that say out-of-state consumers don’t count as the “public.” And the D.C. Circuit is now considering a similar challenge to a natural gas pipeline that will allow some natural gas to be exported to Canada.

As I argue in this op-ed, it would have been a huge mistake for Iowa to adopt a go-it-alone eminent domain policy. Iowa has world-class wind power that will be most valuable if Iowa can export it to states like Illinois that have more people and less wind. A no-eminent-domain-for-export policy would have been terrible for Iowa.

More broadly, there are huge benefits from interstate and international energy trade. For decades, Canada has sent us affordable oil and cheap, clean hydropower. And states that have affordable oil and hydropower generally export to states that do not. If there was no eminent domain for export power-lines and pipelines, we all would be stuck paying more for dirtier energy.

And we need energy transport now more than ever. As I explain here, the U.S. is in the middle of three energy booms: history’s biggest oil rush plus more natural gas and more renewable power. Oil has many ways to get to market—pipeline, truck, rail, and boat—but natural gas and renewable power production depend on transport. Natural gas has environmental benefits if it can be piped to places that need to replace coal and oil. Solar and wind can provide cheap, clean energy if we build power-lines to take it to market. And new pipelines and power-lines would help American companies and landowners get more money for their gas and power. 

None of that will be possible, however, if go-it-alone state policies make it impossible to bring energy where it is needed. Landowners are rightly concerned about eminent domain and governments should reform the eminent domain process and offer more compensation to protect them as I suggest in my forthcoming Minn. L. Rev. article with Alexandra Klass. But ignoring interstate and international consumers is not a sensible reform and would cut off much of the promise of the new U.S. energy economy.

History’s Biggest Oil Boom: “The Third Age Of Oil & Gas Law”

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The oil boom happening now in Texas is the biggest commodity boom the world has ever seen. We all know the stories of history’s oil and gold rushes—the heroes and villains, fortunes made and lost. But this boom dwarfs every previous commodity boom.

I’ve just posted my new Indiana Law Journal article, which shows how this new boom is transforming oil and gas law; it’s titled The Third Age of Oil and Gas Law. But it starts by explaining how oil and gas has always been the crucible and catalyst for the most important legal trends of the modern world: the transition from common law to regulatory state, the rise of private governance, and the shift to a multi- polar international order.

The article shows how modern oil and gas law was born on private land in the United States, explaining the economic logic of the oil and gas lease, which was the legal innovation that made the modern world possible. It shows how the center of gravity shifted overseas as the Middle East came to dominate oil production. Finally, the article concludes by showing how public and private landowners can ensure maximum benefit from the unprecedented oil boom now transforming the United States.

As you read the article, keep the following visualizations handy. The first shows how the oil and gas industry started in the United States, spread to Russia and the Middle East, and is now shifting back to the United States.

The second shows how the new boom has transformed the U.S. oil and gas industry, with new production concentrated in Texas.

Here are chart versions of those two visualizations, which focus on more recent years.

Here’s production by country since 1950.

Here’s production by state since 2005.

Here is the abstract for the article.

History’s biggest oil boom is happening right now, in the United States, ushering in the third age of oil and gas law. The first age of oil and gas law also began in the United States a century ago when landowners and oil companies developed the oil and gas lease. The lease made the modern oil and gas industry possible and soon spread as the model for development around the world. In the second age of oil and gas law, landowners and nations across the globe developed new legal agreements that improved upon the lease and won these resource owners a larger share of the benefits of oil and gas production. The third age of oil and gas law, which is now beginning, will be defined by three forces. First, fracking is transforming the common law doctrines that underlie oil and gas law and policy. Second, both private and public landowners are perfecting agreements that can win them a greater share of the oil and gas under their land. Third, public landowners are beginning to seek ways to balance their efforts to extract maximum value from their oil with their efforts to limit climate change.

This Article is the first to identify these ages of oil and gas law, which have been central to the development of law, the global economy, and the modern world. It also reveals the legal and economic logic of agreements between oil and gas companies and public and private landowners, and how they have evolved over the past century. And it describes how landowners can ensure maximum benefit from the unprecedented oil boom now transforming global oil production.

Cite as: James W. Coleman, The Third Age of Oil and Gas Law, 95 Ind. L.J. _, _ (forthcoming 2020) https://ssrn.com/abstract=3367921.

TransCanada Sues U.S. Government For Rejecting Keystone Pipeline

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Courtesy of the <a href="https://www.aer.ca/about-aer/media-centre/photos">Alberta Energy Regulator</a>

Courtesy of the Alberta Energy Regulator

On Wednesday, TransCanada filed a complaint against the United States in a federal district court in Houston alleging that the President’s rejection of the Keystone XL pipeline was invalid and unconstitutional because it was not authorized by Congress. If successful, this claim would allow construction of the pipeline.

On the same day, TransCanada filed a notice of intent to submit a claim to arbitration under the North American Free Trade Agreement (NAFTA). Even if successful, this claim would not allow construction of the pipeline, but could entitle TransCanada to money damages from the United States. The company is asking for $15 billion in damages.

Like most private lawsuits against the government, these lawsuits face long odds, but both raise important and novel legal issues that will be difficult to decide. TransCanada’s constitutional claim could change the way that the United States approves international oil pipelines. And TransCanada’s NAFTA claim could endanger the United States’ long winning-streak in NAFTA arbitrations.

TransCanada’s Constitutional Claim

The most unexpected part of TransCanada’s legal salvo was the lawsuit that it filed asking a U.S. district court to rule that President Obama’s rejection of the Keystone XL pipeline was unconstitutional. TransCanada notes that Congress has never passed a statute that gives the President authority to reject international oil pipelines and says that, without such a law, the President had no authority for his unilateral rejection of the pipeline.

Congress has never provided a legal framework for regulating oil pipelines that cross the United States’ international borders. By contrast, there are laws that establish a process for the President to decide on international natural gas pipelines and electricity transmission.

In the absence of Congressional authorization, President Lyndon Baines Johnson simply issued an executive order in 1968, Executive Order 11423, that established a process for issuing permits to proposed oil pipelines that “would serve the national interest.” Then in 2004, President George W. Bush issued a new unilateral order, Executive Order 13337 that expedited review of border crossings. Both executive orders delegate decisions on these cross-border permits to the U.S. Secretary of State.

On November 6, the current Secretary of State, John Kerry rejected the Keystone XL pipeline after seven years of review. The official U.S. Record of Decision stuck by the State Department’s controversial previous conclusion that the pipeline would improve U.S. energy security, benefit the economy, and would be unlikely to increase greenhouse gas emissions in Canada. (It also suggested that the pipeline might even decrease greenhouse gas emissions in the United States by moving oil transport from railroads to pipelines, making oil transport more efficient.) But the U.S. concluded that the pipeline was ultimately not in the national interest because it could undercut the nation’s leadership in climate talks because the pipeline was “perceived as enabling further [greenhouse gas] emissions globally.”

TransCanada’s key argument is that, in the absence of any law, the President does not have unilateral authority to reject an international oil pipeline based on this kind of consideration. Although Presidents have claimed power to decide whether a pipeline is in the national interest since President Johnson in 1968, TransCanada argues that this power has never been fully tested because the President has never rejected an international pipeline.

This creates something of a puzzle: if Congress has never passed a law governing international oil pipelines and the President does not have authority to reject an oil pipeline, then who may, in fact, regulate pipeline border crossings?

One possible answer is that international oil pipelines are primarily regulated by the states, just like domestic oil pipelines. The U.S., unlike Canada, primarily relies on state-by-state regulation for interstate oil pipelines. That is, if no law has been enacted governing international oil pipelines, then the only laws that govern them are the same ones that govern domestic oil pipelines.

President Obama’s administration will raise several counterarguments. First, it will argue that the President has inherent and unilateral constitutional authority to control the nation’s borders, so he must have some kind of ability to control international border crossings. Second, if Congress has not established any criteria for the President to use in this decision, then he is free to create his own criteria. Third, President Johnson established this process almost fifty years ago and it has been frequently used to approve pipelines so Congress has, with the passage of time, acquiesced to this process. Fourth, federal district courts have upheld the President’s unilateral decision to approve international pipelines.*

TransCanada will respond that, whatever power the President has, it does not allow him to reject a pipeline based solely on international perceptions that are inconsistent with the government’s own environmental analysis. TransCanada’s complaint also argues that, far from acquiescing in the President’s unilateral authority to reject international pipelines, recent Congresses have repeatedly sought to constrain the President’s authority, citing Congress’s frequent attempts to approve the Keystone XL pipeline. Finally, TransCanada will point to federal court decisions and executive branch opinions from nearly a century ago, which concluded that in the absence of Congressional authorization the President had, at most, limited authority to control border-crossing facilities. Though old, these opinions may remain relevant in the unusual situation where, as with oil pipelines, Congress has not established a process for permitting border crossings.

The continuing saga of the Keystone XL drama overlaid with a tangle of old and new precedents and conflicting constitutional powers will make TransCanada’s U.S. lawsuit a case to watch. If a Republican is elected President this coming November, then the issue will likely be moot because the Republican contenders say they would reverse President Obama’s decision on the pipeline. But if not, then the U.S. courts will have to resolve the thorny issues raised by TransCanada.

TransCanada’s NAFTA Claim

TransCanada’s other action, its notice of intent to submit a claim to NAFTA arbitration, alleges that the U.S. discriminated against Keystone XL’s Canadian investors, violating its obligations to afford them national and most-favored-nation treatment under Article 1102 and Article 1103 of NAFTA. TransCanada also argues that by delaying a decision on the pipeline for seven years, and then denying it, the U.S. government destroyed the value of its investment, expropriating its property in violation of NAFTA Articles 1110 and 1105.

NAFTA claims are decided by three independent arbitrators. These arbitrators are not bound by the decisions of the arbitrators that decided previous claims. Thus, it is very difficult to predict whether a NAFTA claim will be successful.

If past cases are any indication, a Canadian company like TransCanada begins at a serious disadvantage. The United States has never lost a NAFTA decision to a foreign investor. And arbitrators have sometimes gone to great lengths to avoid a finding of discrimination. In one case, California passed a law that, it admitted, used “narrowly crafted language intended to prevent approval of a specific mining project” owned by Canadian investors. But the NAFTA panel for that case held that the law was not discriminatory because, in theory, that narrowly crafted language could apply in the future if another company proposed a similar project.

On the other hand, the extraordinary facts of the Keystone XL review process could end the United States’s NAFTA winning streak. First, throughout the seven-year review, President Obama repeatedly responded to complaints from pipeline supporters by admonishing them to remember “this is Canadian oil, this isn’t U.S. oil.” And the President’s administration was, at the same time, moving to expedite domestic oil pipelines. Second, after repeatedly delaying the decision on Keystone XL and repeated environmental impact studies, the U.S. denied the permit on the basis of a perception that was not supported by the seven years of analysis it had done. It will be difficult to explain why it took seven years to analyze the pipeline if, in the end, the government chose to ignore that analysis.

Finally, TransCanada’s lawsuits may operate in tandem because one relevant set of laws that Congress has passed concerning international energy trade is the set of laws approving and implementing NAFTA. In U.S. court TransCanada will argue that even if Congress has not prescribed a specific process for international oil pipelines, it has, at least ruled out any discriminatory or arbitrary treatment of Canadian investors in those pipelines. One of the chief challenges for U.S. lawyers will be to explain why the federal government should impose a uniquely lengthy and unpredictable process on Canadian oil pipelines while expediting domestic oil pipelines.

Regardless of the outcome, TransCanada’s Keystone XL challenges set the stage for potential blockbuster decisions that will have a lasting impact on energy, constitutional, and trade law.

 

You can see more legal documents & analysis related to the Keystone XL pipeline and other North American oil pipelines at Oil Transport Tracker (Shortcut link: http://j.mp/OilTransportTracker).

 

 

*Full disclosure: Before my academic career, I worked in private practice and represented TransCanada in two of these earlier cases. 

May Provinces (or States) Limit Imports on the Basis of Greenhouse Gas Emissions Elsewhere?

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By James Coleman & Martin Olszynski

Screen Shot 2015-04-15 at 9.03.54 AMLast week, a group of economists known as “Canada’s Ecofiscal Commission” issued a much-discussed report that urged Canada’s individual provinces to drive Canadian climate policy by adopting their own carbon pricing schemes. But the report barely touched on one of the key challenges for provincial or state regulation without the support of the national government: what may places that price carbon do to avoid losing industry to places that don’t?

This is an urgent question across North America because, for different reasons, Canada and the United States are unlikely to adopt uniform nationwide climate policies in the near future.[1] Instead, climate regulation will be somewhat different in each state and province. But states and provinces lack a key power that national governments use when they adopt climate regulation: the power to adopt trade regulations that control imports. The nation is an economic union so provinces can’t limit trade across their borders.

Climate and trade policies often go hand-in-hand because nations that limit carbon emissions worry they will lose industry to nations that do not. After all, if emissions merely shift to other nations, a phenomenon known as “carbon leakage”, a single nation’s carbon policies won’t do much to help the global climate. One way around this problem is to charge a “carbon tariff” on imports that were produced in nations that do not have similar limits on carbon emissions. This charge is calculated by estimating how much carbon was emitted to produce the imported product and then multiplying that quantity by the importing country’s carbon price. These tariffs are sometimes called “border adjustments” because, in theory, they are supposed to level the playing field between domestically regulated producers and unregulated foreign ones.

You can’t set up a customs house between Manitoba and Ontario, so provinces can’t charge a regular carbon tariff. But states and provinces have found a roundabout way to do more-or-less the same thing. For instance, California and Quebec both have cap-and-trade systems that force power plants to purchase a permit for each ton of carbon that they emit into the atmosphere. Crucially, these cap-and-trade systems also apply to power plants in other states that export electricity to California and Quebec. The effect is the same as the customs house: when a purchaser imports electricity into California or Quebec it must pay a charge for all the carbon that was emitted elsewhere to produce that electricity.

So can states and provinces place a charge on imports that accounts for how much carbon was emitted elsewhere to produce them? It’s a crucial question because such charges could apply to all kinds of goods, not just to electricity. Provinces like British Columbia and states like California are already setting standards for motor fuels that effectively charge imported fuels for the greenhouse gases that were emitted elsewhere in their production. And in theory the same charges could apply to any kind of good. You would just add a surcharge to every item based on the greenhouse gases that were emitted elsewhere to produce it: television sets, fruit, toys, you name it.

In fact, state and provincial climate regulations across North America are increasingly adopting exactly these kind of controls, adding urgency to the underlying legal question: may energy importers export their regulation to cover emissions outside their borders? In the absence of national action on climate change, provinces are looking for creative ways to make sure that they don’t lose industry to provinces that don’t regulate, so they’re regulating imports based on carbon emissions elsewhere.

Canada’s Ecofiscal Commission is recommending provincial action on climate but it has little to say on this crucial topic, and what it says is confusing. The report’s section on “competitiveness” has a subheading titled “Border adjustments could level the playing field,” which sounds promising. It then says “border adjustments could not be implemented by a single province, but would require involvement by the federal government,” which is a major qualification. But then it states that, after all, such adjustments are possible for “specific emissions that fall under provincial jurisdiction” and cites the example of Quebec’s electricity imports. For this proposition it cites a white paper on a U.S. cap-and-trade system written by U.S. law students.

This issue is too important to gloss over. If states and provinces are going to lead the fight against climate change, many legal decisions and many academic pieces will be written on the topic before it is resolved. This post merely flags some of the key rules and arguments that will be in play.

The normal rule has been that states and provinces may not adopt regulations for pollution emitted in other states. These forbidden rules are known as “extraterritorial” regulations. In Interprovincial Co-Operatives Ltd. v. Dryden Chemicals Ltd, the Supreme Court of Canada held that Manitoba could not make a law punishing companies that lawfully emitted pollutants in Saskatchewan and Ontario, even if those pollutants made their way into Manitoba. The rule in the United States is more complicated, but under what is known as the “dormant commerce clause”, the U.S. Supreme Court has held that states cannot adopt a law “if the practical effect of the regulation is to control conduct beyond the boundaries of the State.”

One important reason for the normal rule is that if provinces or states began banning products that were produced elsewhere in ways that they didn’t like, they would quickly run afoul of international trade laws. For example, if Ontario banned all products made by laborers that were not paid its $11 per hour minimum wage that would, as a practical matter, end imports from the developing world. It would also conflict with the General Agreements on Tariff and Trade that govern international trade.

On the other hand, the traditional rule against extraterritorial regulation is on somewhat tenuous footing. In Canada, Interprovincial Co-Operatives involved a 3-1-3 split, which makes the primary ruling open to debate. The decision is also four decades old and has been heavily criticized, including by one of Canada’s leading constitutional scholars. See Peter Hogg, Constitutional Law of Canada, 5th ed., (2007) at 13-10. Similarly, in the United States, scholars and judges have suggested that limits on extraterritorial regulation should be abandoned.

Suffice it to say that import regulations may have a better chance of being upheld where their extra-provincial effects are deemed incidental to their primary purpose, or “pith and substance” in Canadian jurisprudential terms. Reference re Upper Churchill Water Rights Reversion Act, [1984] 1 SCR 297. See also Shi-Ling Hsu and Robin Elliot, “Regulating Greenhouse Gases in Canada: Constitutional and Policy Dimensions” (2009) 54 McGill L.J. 463.

And perhaps the normal rule should bend in the case of provincial climate regulation. For one thing, even if carbon emissions occur in Alberta, they still affect the global climate, which could harm Ontario, Quebec, and every other place in the world. For the same reason, it is vital that climate regulation doesn’t just shift carbon emissions to other provinces: few will want to regulate if the provinces that do lose jobs without securing any net benefit for the climate. If we want provinces to set a model for eventual national regulations, maybe they need the same trade powers.

States and provinces also have long-standing authority to manage the mix of sources providing power to their electrical grid, which includes regulating contracts for electricity imports. This helps to ensure that power will always be available at reasonable prices. But there are limits to this authority as well: a province certainly could not prescribe the wages or working conditions for employees at power plants in other provinces. Can provinces prescribe carbon standards for power plants elsewhere under their traditional authority over electricity markets? That remains an open question.

So far, the U.S. courts are divided on whether states may regulate based on carbon emissions elsewhere. An appellate court said that California could regulate fuels based on emissions elsewhere and a district court said that Minnesota could not regulate electricity based on emissions elsewhere. The Canadian courts have not yet addressed the question. And the first two Canadian cap-and-trade systems are poor test cases because both Quebec and Ontario import far less electricity than they export. But the question will become unavoidable as more provinces adopt the kind of policies recommended in the Ecofiscal Commission’s report.

Finally, these questions will grow more pressing as long as national governments delay action to address climate change. As with recent provincial efforts to improve environmental impact assessments of interprovincial pipelines, the federal policy vacuum is pushing provinces to act on their own. In the United States, one interim solution could be for the federal government to allow non-discriminatory state regulation of energy imports. If Canada’s government is serious about sticking with provincial climate policy, it may have to consider similarly creative solutions. In the meantime, these policies will continue to present difficult and novel legal questions about the boundaries of state and provincial authority.

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[1] In Canada, the conservative government has repeatedly delayed federal climate regulations and the leader of the liberal party has pledged to leave the provinces in charge of carbon pricing. In the United States, congressional inaction has pushed President Obama to rely on a rarely-used Clean Air Act provision that requires states to adopt their own regulations for power plant carbon emissions.