Self-Regulation and Legalization

Making Global Rules for Banks and Corporations

Annegret Flohr

• Publisher: Palgrave Macmillan
• Year: 2014
• Print ISBN: 9781349471607, 9781137359551
• eBook ISBN: 9781137359568
• Topic: Politics & International Relations
• Subtopic: Comparative Law
• Index: Politics & International Relations

Departing from an International Relations perspective, this book inquires how industry self-regulation affects the role of international law in governing global banks. It provides case studies of the Wolfsberg Principles and the Equator Principles.

1

Introduction

The paradox: international legalization versus transnational regulation

This book is inspired by a theoretical contradiction in recent International Relations (IR) research between those approaches alleging a trend to ‘legalization’ and those seeing ‘transnationalization’ as a defining feature of today’s international affairs.

According to the legalization hypothesis, international politics have been characterized by an expanding role of Public International Law (PIL) since the early 1990s (Wolf 1993; Goldstein et al. 2000). Globalization, along with the interdependent world and the myriad of trans-border problems that it created, requires states to collaborate ever more closely in an increasing number of issue areas, and to base their cooperation on strong legal footings. Loose pledges of cooperation are replaced with binding international agreements accompanied by independent judicial institutions empowered to authoritatively interpret them. In a world of globalized problem structures that can only be addressed collectively by states, formal law becomes the dominant form of cooperation because its obligatory nature allows states to overcome collective action problems and issues of credibility, uncertainty and freeriding (Abbott and Snidal 2000). Examples of this transition from loose cooperation in weak regimes to heavily legalized and institutionalized variants can be found in varying issue areas; prominent examples are the creation of the International Criminal Court and the transformation of the General Agreement on Tariffs and Trade (GATT) into the highly judicialized World Trade Organization (WTO). International relations, in short, are trending towards legalization.

In more recent years, a second group of scholars, primarily interested in the organization of global markets, describe international cooperation as being increasingly reliant on private and informal governance structures. What they describe as global (Mattli and Woods 2009a) or transnational regulation (Djelic and Sahlin-Andersson 2006a) is a form of ordering characterized by two elements: the rise of private or non-state actors into positions of authority and decision-making; and the use of non-binding or voluntary steering mechanisms. ‘Private authority’ (Cutler et al. 1999a) is exercised in many new forms of regulation in the global arena: global public policy networks, multi-stakeholder processes and regulatory standards institutions have all demonstrated the ‘proliferation of transnational rule-making processes’ in recent years (Dingwerth 2007: 3). They all share a reliance on voluntary rules or ‘soft law’ in the form of standards, best practices and certification schemes, rather than binding obligations and enforcement. Cumbersome intergovernmental agreements are replaced by transnational and multi-stakeholder forms of regulation that are considered functionally superior precisely because of their flexibility and voluntariness. In short, international governance is ‘transnationalizing’, meaning it is privatizing and softening simultaneously.

At first glance, these two lines of research pose a paradox as they predict trends moving in opposite directions. The legalization hypothesis predicts a trend towards increasing reliance on formal international law, meaning binding intergovernmental agreements. The transnationalization hypothesis predicts increasing reliance on private authority and non-binding rules. One side states that intergovernmental cooperation is gaining in strength; the other asserts that it is being replaced with functionally superior regulation by private actors and in non-binding form. While both research fields (international legalization and transnational regulation) are flourishing, the inherent contradiction of legalization versus transnationalization is neither acknowledged nor resolved.

Some may deny the existence of this paradox by suggesting that the two theories were never meant to be applied to the same empirical universe. While both predict how international rules will evolve in form, each speaks of a different set of rules with the difference existing on several levels, regarding the addressees, the creators as well as the substance of the rules. Legalization scholars are interested in rules for state behaviour that take the form of Public International Law and hence, are made by states as well. Studies in transnational regulation usually focus on rules for, and adopted by, non-state actors.

With regard to substance, scholars advancing the legalization hypothesis have tested it primarily in the realm of genuine intergovernmental politics where ensuring peaceful inter-state cooperation is the primary regulatory goal. Research in the area of transnational regulation is usually concerned with facilitation of market processes, reduction of market distortions and correction of market failure. In this sense, both propositions seem limited in scope and their spheres of prediction would not overlap, hence not generating any paradox. Nevertheless, assuming such a scope restriction in both theories seems incorrect: scholars neither adopt it explicitly nor do their claims remain within a scope restricted in this way. Applications of the legalization hypothesis that extend to the regulation of non-state actors (Calliess 2004; Lehmkuhl 2004; Brütsch and Lehmkuhl 2007a; Liese and Beisheim 2011) as well as studies of transnational regulation that concern rules for state behaviour (Helleiner 2009; Sikkink 2009) are manifold. Therefore, both theories purport to be applicable to the same phenomena which makes them overlap in paradoxical ways.

Aiming to examine this paradox, this book focuses on the global regulation of corporate behaviour. While the transnational regulation school is more or less exclusively devoted to analysing global rules for corporations, legalization research has touched upon it only sporadically. But although in recent years regulation of corporate behaviour has been dominated by transnational rule-making processes, global rules for corporations also emanate from intergovernmental forums and could, theoretically, be subject to legalization. In this, as in many other issue-areas on the international level, hard law and soft standards created by various types of actors often exist in parallel and evolve alongside one another. This indicates that the dynamics of legalization and transnationalization are more complex than the simple picture of two opposing trends may suggest. This book aims to render a clearer picture of this complexity, not just to find out which of the theories is ‘wrong’. Nevertheless, when looking at the global regulation of corporate actors, there may be a tendency to deny the theoretical paradox between legalization and transnationalization on empirical grounds: the legalization thesis does not seem to apply at all.

While market and production processes have long been internationalizing and corporations have developed into multinational entities, laws regulating their behaviour can only be found at the national level, and much of their border-crossing activity therefore occurs in law-free spaces. Note that this does not mean rule-free spaces. As shown equally by older research on the lex mercatoria (Teubner 1997a) and more recent work on corporate social responsibility (Vogel 2005), global corporate activities are not free from normative expectations, though they are largely free from intergovernmental interference. The dense net of intergovernmental cooperation found elsewhere is virtually non-existent in this area. In the few instances where efforts towards international cooperation have emerged, such as for example the rules for adequate bank capital, these have remained ‘soft’ in nature, not showing any sign of ‘legalization’. Therefore it seems that IR’s theory of legalizing world politics fails when it comes to regulating corporations. In this realm, the theoretical contradictions seem to be resolved by a factual or empirical victory of the transnational regulation hypothesis: there is no trend towards strong legal rules for corporations; rather, they are evolving towards the softer and more private end of the scale.

Although this argument could be made, no one explicitly claims that the proliferation of soft rules for corporations falsifies legalization theory. Among researchers, the two theories of international legalization and transnationalizing regulation are rarely read in conjunction. Nevertheless, two implicit explanations for why private and voluntary rules for corporations have apparently prevailed are put forward: one that normally supports this trend and one that strongly disapproves of it.

Those speaking in favour of transnationalization allege that soft and private standards such as codes of conduct, certification schemes and best-practice guidelines have taken precedence as regulatory instruments because they provide the best possible solutions for particular regulatory problems. These new forms of regulation are considered superior to their governmental or intergovernmental alternatives for multiple reasons: involving problem-causers and rule-addressees in rule-setting allegedly ensures reliable identification of regulatory gaps and brings together the resources and expertise needed to close them. Giving rule-addressees ownership over the regulatory process strengthens compliance. The flexibility inherent in non-binding rules ensures more effective solutions than could be achieved through mandatory but inflexible rules. Hence, corporate rule addressees are asked to participate in rule-setting processes because they are considered part of the solution, not part of the problem. In brief, this ‘governance story’ suggests corporate regulation, re-regulation and closure of regulatory gaps, is best achieved by the participation of corporate rule addressees, and considers the replacement of binding law by voluntary standards a step towards more effective regulation.

In contrast, scholars sceptical of the ‘privatization of world politics’ (Brühl et al. 2001) offer a very different explanation for the observation that rules for corporate actors are increasingly soft and private in form: non-state and voluntary forms of regulating corporations are adopted because they serve the corporate preference for autonomy and non-interference in the market process. The emergence of corporate social responsibility and the general trend towards non-state and voluntary forms of regulating corporations at the global level are seen as a form of global regulatory capture – private interests are protected and take precedence over the public good (Hanlon 2008). Business power (Fuchs 2005) has reached its zenith through this new global corporatism (Ottaway 2001). Intergovernmental legalization in corporate regulation is not emerging precisely because of the dominance of transnational regulation. In these accounts, the story of transnational regulation is not a story of governance but a story of capture.

Both stories converge in how they describe the current state of corporate regulation in the global economy, but not in terms of how they interpret the empirical facts. In other words, both narratives agree that regulation of global markets today is soft and participatory, and carried out by transnational institutions rather than intergovernmental bodies. While one side believes these facts ensure the best possible solution of regulatory problems and sees corporate actors as partners in this undertaking, the other is convinced this setting prevents a genuine search for the best possible solutions because it endows self-interested and regulation-averse corporate actors with privileged access to decision-making processes.

This is precisely where this study comes in and asks whether it is true that regulation of global markets is becoming softer and moving away from the hands of public or intergovernmental regulators into the hands of non-state or even commercial actors. Is it true that states are withdrawing from their role in the provision of public goods at the international level? What is the role of public international law, of classic intergovernmental cooperation and rulemaking in global financial markets? How is this role affected by the emergence and growing reliance on transnational forms of regulation?

To answer these questions, this study focuses on a single and specific form of transnational regulation: industry self-regulation. The ‘capture hypothesis’ has been voiced with stridency towards this particular form of transnational governance. Corporations allegedly meet to develop self-regulatory instruments only when they seek to pre-empt more intrusive public regulation – and frequently do so with success. The public interest in effectively closing regulatory gaps loses out to private interests. This study deliberately focuses on self-regulation in an industry that is considered particularly successful in preventing strong public regulation: the global banking industry. The emergence of industry self-regulation by global banking institutions is examined here for its impact on the evolution of intergovernmental rules for global banking. Does transnationalization truly eclipse legalization? And if so, does that signify governance or capture?

Central concepts

International legalization

According to the legalization hypothesis, international cooperation in the post-cold war era is characterized by an expansive and strengthening role for international law. Legalization describes this evolution of international law as one towards greater ‘legal quality’ (Wolf and Zürn 1993: 17) and being more ‘law-like’ (Brütsch and Lehmkuhl 2007b: 9), with the reference point for measuring law-likeness and legal quality being domestic law. The storyline is that international law used to be dissimilar to law as it should be, but is now increasingly becoming ‘like law’. While it is still debated what exactly constitutes law-likeness, particularly between IR’s rationalist and constructivist theories, underlying the law-likeness suggestion is another argument that is more or less shared between the two (though probably not by IR realists): namely, that law is gaining strength compared to unconstrained state power and will. International law is no longer a mere expression of aspirations whose fulfilment always depends on political will. Instead, international law has evolved into a factual force of its own. It is not necessarily a full determinant of state behaviour but is a constituent of political will and sometimes even succeeds against it. However, it is not suggested that state power and will cease to be relevant in the face of international law. Instead, law is gaining in relevance so that state power and will are no longer the only determinants of political outcomes. In other words, international law becomes a more reliable way of steering state behaviour. While this opinion of international law’s increasing strength is shared by scholars from very different fields, the root of this legal strength has proven difficult to establish. This is not surprising knowing that legal theory has always relied on competing assumptions about the nature of law: in the Austinian understanding, law is ultimately defined by being rooted in the state’s monopoly of force (Kelsen 1959: 18). In contrast, Hart suggested that law matures the more it provides for secondary rules governing its own creation and application (Hart 1991: 77–9). Rationalist concepts of legalization often incorporate both of these assumptions, and see international law as legalizing when it develops secondary rules for its own interpretation, implementation and enforcement (Goldstein et al. 2000). Constructivists, however, reject both of these aspects and look for law’s constitutive elements in the style of reasoning it entails (Kratochwil 1989) and in law’s inherent morality (Fuller 1964) that creates a compliance pull (Finnemore and Toope 2001; Brunnée and Toope 2010).

This study develops a holistic understanding of legalization to fully capture the evolution of international rules for corporate behaviour. It seeks to incorporate rationalist and constructivist understandings of law as form and law as process by differentiating between three different components of international legalization: substantive legalization describes how intergovernmental rules expand in scope by imposing either more onerous or more precise behavioural duties on actors (in our case, on corporations). Institutional legalization captures the extent to which international rules rely on formally binding law and can be adjudicated before international courts. Procedural legalization, finally, describes the extent to which the processes prior and post the law itself, such as rule-making, compliance systems and constitutionalization respect due process.

In all three of these dimensions one conceptual confusion is to be avoided from the start: as IR is increasingly focused on the relevance of private actors and transnational governance in international politics, distinction between the concepts of transnational regulation and legalization may seem difficult or almost unfeasible. Both may be understood as normatively or even legally relevant steering mechanisms in international politics. Indeed, scholars in IR are also observing processes of ‘transnational legalization’; private governance institutions develop law-like qualities, just as international governance does (Zürn and Zangl 2004; Brütsch and Lehmkuhl 2007a). Nevertheless, for the purpose of this book, a categorical differentiation will be maintained between various private or transnational forms of international rule-setting and classic international law or interstate rules in the sense that the term legalization will always refer to rules made by states or interstate forums, whether of inter- or transgovernmental nature. Rules made by private actors, in whatever constellation, will not be considered as pertaining to the sphere of international legalization.

But while the study, in this sense, loosely relies on the PIL doctrine of subjects to differentiate between international legalization and transnational regulation, it does not rely on the doctrine of sources to differentiate between international law and non-law. Instead, like many other IR researchers, the author assumes a continuous spectrum of gradations in legal quality when distinguishing non-law from formal hard law.

Industry self-regulation

Corporate or industry self-regulation is only one of many possible forms of transnational regulation or private authority exercised at the international level and is only one of many schemes involving corporations in global governance, but it has attracted a considerable amount of scholarly attention (Gunningham and Rees 1997; Kolk et al. 1999; Haufler 2001; Levy and Prakash 2003; Scherer et al. 2006). Political Science research on the role of business actors in public policy-making long antedates the emergence of the literature on global governance and self-regulation. Corporate influence was central to Political Science debates in the 1960s and 1970s on pluralist, neopluralist and corporatist models of the domestic policy-making process (Lindblom 1977; Falkner 2010). The innovative turn in recent years, however, was to take corporate actors seriously as actors – rather than structural forces (Deitelhoff and Wolf 2010: 5) – in international and global politics and to recognize their governance efforts as relevant factors in ordering the international sphere. Haufler’s well-known book A Public Role for the Private Sector, which is wholly devoted to industry self-regulation in various issue areas, played a major role in this evolution. The realization that corporate actors could be seen as partners in global governance took place in a number of different but related policy areas at the same time. The emergence and strengthening of global environmental politics led to acknowledgement of the fact that environmental protection issues cannot be solved solely at the interstate level – environmental policy-making increasingly relied on partnership with the private sector (Levy and Newell 2005). In the area of human and labour rights protection, where activists had long blamed corporations for being complicit and engaged in rights abuse and violations, the confrontational approach that had characterized the 1970s was increasingly replaced by a cooperative approach that sought to elicit voluntary human and labour rights compliance from multinational corporations (Zammit 2003). Eventually, these trends led t...

Table of contents

• Cover
• Title
• 1  Introduction
• 2  Industry Self-Regulation: Soft Rules for Corporations
• 3  The Framework: Legalization as Hard Rules for States?
• 4  A Brief History of Governance in the Financial Sector
• 5  Anti-Money Laundering and the Wolfsberg Principles
• 6  Legalization of Anti-Money Laundering
• 7  Environmental Safeguards and the Equator Principles
• 8  Legalization of Environmental and Social Safeguards
• 9  Conclusion: Patterns and Dynamics of Self-Regulatory Impact
• Notes
• Bibliography
• Index