El Dorado is the fabled city in Latin America that boasts roads paved with gold. Optimistically, Pacific Rim, a Canadian gold mining company, named its mining concession in El Salvador “El Dorado.”

Located 65 km east of the capital city of San Salvador, the project covers approximately 144 square kilometers in four separate claims. The colonial Spanish discovered gold in the district in the early 1500s, but by the late nineteenth century most of the easily mined surface gold had been dug out. Pacific Rim believes that the site could produce 1.4 million gold equivalent ounces, which it can profitably extract with modern mining technology.

Pacific Rim was granted an exploration permit for its El Dorado sites in 2002. It soon faced opposition, as locals feared that cyanide runoff would contaminate their water supplies. International experience shows that accidental spills are frequent. In its defense, the company claimed, “Had the government of El Salvador followed its laws, the El Dorado mine would be in operation today, employing thousands. The company would be the single greatest taxpayer in El Salvador. The company has met or exceeded all the legal requirements necessary for a mining permit according to El Salvador’s mining, environmental and foreign investment laws.”

Despite protests, in December 2004, the company applied to have its exploration licenses converted to an exploitation concession. The Minister of Environment and Natural Resources has to approve the company’s Environmental Impact Study (EIS) before mining can commence. After resubmitting its assessment a number of times to address specific objections, the minister failed to approve the EIS, which the company alleges is an abuse of process.

In March 2008, the Salvadoran government announced that it wanted to carry out in-depth studies of the environmental impact before granting any of the required exploitation permits. Minister of the Environment, Carlos Guerrero, explained, “Neighboring countries have serious problems with the management of the metal mining industry, and I think, with those problems, that we should be very careful.”

As the process stretched, with local protests becoming violent, Pacific Rim suspended work on the site in 2008. To break the impasse, in April 2009, Pac Rim filed international arbitration proceedings against the government of El Salvador under the Central American Free Trade Agreement (CAFTA) for $100 million in compensation. How can a Canadian company sue under a treaty to which Canada is not a party? By being transnational, it simply goes through its US subsidiary (Pac Rim Cayman). The more important question is: How can a free trade agreement force a government to approve a project that it believes poses a risk to the environment?

To answer this second question we need to turn to a dangerous clause that the US has insisted be included in all trade and investment agreements it signs. According to Article 10.7.1 of CAFTA, “No party may expropriate or nationalize a covered investment either directly or indirectly through measures equivalent to expropriation or nationalization.” It allows corporations to sue governments when they believe that a regulation or administrative decision has unfairly reduced future opportunities to profit from its investments. Under this provision, corporations take a government to an independent trade tribunal, whose judgment would be binding for all parties. While the tribunal could not force a government to withdraw the offending ruling, it could compel it to pay compensation, and Pacific Rim has estimated that its losses, which include future profits, to land in the vicinity of $100 million.

In a report by the Institute for Policy Studies, the authors concluded that “the current system of international investor protections has granted excessive powers to global corporations.” It goes on to observe that “powerful firms have exploited these rules to undermine democratic processes, often at the expense of vulnerable communities and the environment.”

The good news is that on June 1, 2012, the World Bank arbitration panel ruled that Pacific Rim “did not and does not have substantial activities in the US” to argue its case under the Central American Free Trade Agreement. The case will now move forward under El Salvador’s Investment Law, which prohibits expropriation without compensation, and where it should have been heard in the first place. While the company has suffered a setback, it really only lost on technical grounds, but the principle remains that investment agreements can be employed to frustrate the actions of democratic governments to protect their citizens.

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