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Changing of the Guard: The Rule of Law And A Safe Haven for Investment
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Changing of the Guard: The Rule of Law And A Safe Haven for Investment

The United States has an invaluable asset: the rule of law and its historic role in protecting property rights. This essay highlights the fragile nature of this asset and explains why protecting this asset—particularly in the eyes of foreign investors—must be a priority for a new Biden administration (as it should be for the remainder of a Trump administration). 

The executive branch, supported by congress and the courts, acts as custodian for this most valuable asset across administrations regardless of the political party. The United States has been, and remains, a safe haven for investors from around the world in all manner of assets, including U.S. Treasury securities, stocks and bonds, real estate, and intellectual property. The United States increasingly relies on foreign investment to finance its deficit spending, as well as contribute to efficient and low-cost capital raising by United States businesses. If foreign investors came to doubt the security of investments in the United States, or the desirability of its capital markets and exchanges, the negative impression could have disastrous consequences. (A recent New York Times essay/video suggests the world already is unimpressed with how the oldest democracy runs elections.)

President Trump has been criticized for assaults on the rule of law in various spheres of activity (as has the Republican Party), including the rule of law in the economic sector. For example, Professor Michael Klarman at the Harvard Law School highlighted actions taken by the Trump administration against business interests by “selecting winners and losers in the economic marketplace.” Indeed, some actions of the Trump administration have placed this asset at risk. Perhaps paradoxically, President Trump and his supporters leveled similar accusations about the consequences of a Biden administration should it adopt various progressive policies advocated by liberal elements of the Democratic Party.

Recent Trump Administration Executive Orders directed at Chinese technology companies (TikTok and WeChat), and the tentative solution in TikTok, provide a lens to view the problem because these cases created heightened concern over the continued status of the United States as a safe haven for foreign investment. These Executive Orders and their potential resolution must be viewed in context to understand the full extent of the problem. Executive orders are a bi-partisan problem which raise the red flag of possible arbitrary and capricious action creating market uncertainty.

Last August, the Trump Administration issued broad executive orders relating to Chinese technology apps stating “[t]he spread in the United States of mobile applications developed and owned by companies in the People’s Republic of China continues to threaten the national security, foreign policy, and economy of the United States.” The orders followed a unanimous Senate vote to ban TikTok (owned by the Chinese firm ByteDance) from all U.S. government devices. The TikTok order states that “any transaction by any person” with ByteDance or its subsidiaries will be prohibited in 45 days. One consequence: Apple and Google could not offer the app through their app stores. A similar ban applied to WeChat, a messaging app owned by Chinese giant TenCent. Extending the ban beyond WeChat to all of TenCent would have major implications for the video gaming industry because TenCent owns Riot Games (developer of League of Legends) and TenCent holds a major stake in Epic Games (maker of Fortnite).

TikTok immediately raised the rule of law spectre stating: “We are shocked by the recent Executive Order, which was issued without any due process” and vowing to “pursue all remedies available to us in order to ensure that the rule of law is not discarded and that our company and our users are treated fairly – if not by the Administration, then by the US courts.”

One might dismiss TikTok’s response as mere rhetoric or propaganda to counter a climate of rising nationalism and generalized animosity towards China flowing from the COVID-19 pandemic. Moreover, national security concerns rightfully loom large in the equation. This response lacks nuance and context.

The rhetoric from China softened in light of the proposed sale of a 20% interest in TikTok Global to Oracle and Walmart—leaving an 80% interest with the Chinese investment vehicle. By raising the “rule of law” issue, however, TikTok knew it was injecting a powerful counterargument into the controversy that should duly concern the United States government. Indeed, raising this spectre may have contributed to a tentative outcome which TikTok recently said was not a “worst-case scenario” and was “unfair” but at the same time “reasonable”. Indeed, a 20% divestment solution looks much better than a transfer of majority control to a United States investment vehicle—as often required for investment by the United States or multinational firm in a business in a socialist country—let alone complete divestment to which China vehemently objected (though President Trump favored).  The current status of this deal remains uncertain, even though the Trump administration indicated a willingness to accept a 20% divestiture. It is not clear from the public details of the proposed transaction whether it even amounts to a divestiture at all—rather than a complex arrangement in which Oracle performs platform, custodianship, and servicing functions for a fee. Ring-fencing information and intellectual property in exchange for an economic upside of 20% of profits from United States operations should be motivated by national security rather than extracting rents for private parties.

The U.S. Constitution (as well as state constitutions) provide specific protections against impairing the “Obligation of Contract” (Clause 1, Article 10) and taking property for public use without just compensation (5th Amendment); the 14th Amendment protects against the deprivation of property by a state without due process of law.  Indeed, the framers inserted the contract clause into the U.S. Constitution to assure foreign lenders that debts would be honored in state courts and not compromised by state legislation forgiving local debtors (it also protected banks based in northeastern cities from disfavored treatment in other states).

While the U.S. Constitution (and its various state counterparts) appear to offer fairly comprehensive protection for contract and property rights, over time these protections have been severely restricted by interpretation. After the Civil War, the prominence of the contract clause in protecting property rights diminished in favor of “substantive due process”—and became largely moribund following the case of Home Building & Loan Ass’n v. Blaisdell.  Substantive due process as a concept is now disfavored, with reference to “Lochnerism” a term of opprobrium. (The Contract Clause does not protect against federal government economic regulation which has dramatically increased.) Direct protection for interests in property has fared little better, as the court has accorded disparate and less protective treatment for economic interests in property as opposed to interests in personal rights, such as freedom of religion, freedom of association, and freedom of expression. (See, for example, Kelo v. City of New London.)

This well-known trend lessening protections for economic interests in the U.S. courts does not occur in a vacuum.

President Trump directly attacked the rule of law when he criticized the judiciary, the FBI, and the Department of Justice (and, to a lesser extent, the press). His willingness to pardon or commute sentences for political allies exacerbated this perception. Attempting to force divestiture of TikTok to United States companies via executive order and regulation challenges the sanctity of property rights of foreign investors.  Oracle’s founder, Larry Ellison, hosted a fundraiser for President Trump on the same day the Department of Justice urged dropping a Microsoft suit against Oracle, making the perception worse. Is this national defense or an unjustified extraction of value? At a 20% divestiture level, it appears the parties were satisfied that national security and protection of property had been properly balanced.

But concerns over the rule of law do not end with the Trump administration.  On the other side of the aisle, progressive elements advocate for reparations (which some see as a harbinger for deprivation of property rights), the prospect of a Biden administration portends higher taxes (which conservative elements might see as “confiscatory”) and the possible appointment of new Supreme Court justices in a so-called “court-packing” scheme might entrench a judicial philosophy likely to continue (if not further erode) limited constitutional protections for economic interests and property rights. Meanwhile, Senator Bernie Sanders has proposed legislation that would impose an estimated $75 billion in taxes on a handful of billionaires. (Balancing these various concerns would be one task for bi-partisan Congressional studies on reparations and the structure of the judiciary—both studies worth starting.) These potential legislative actions of a Biden administration (though potentially worrisome to investors) would follow a deliberative legislative process rather than a unilateral executive action that might be viewed as arbitrary and capricious.

It is in this context that TikTok raised its concerns over the rule of law—and in which the solution of a modest divestment appears to have been reached—at least in principle.

The Trump Administration, Congress, and a future Biden Administration all need to recognize the context in which international investors watch actions taken by the United States Government against TikTok.

On the one hand, it is fully legitimate for the United States to protect its national security—steps to limit the use of apps by United States employees and agencies fall into this camp.  As an illustration, nobody questions prohibitions against non-U.S. persons acquiring security interests in various properties of defense contractors—the fear is that a foreign person ought not to acquire possession of a defense asset in a foreclosure. The same concern over protecting U.S. defense assets and secrets applies here to TikTok.

On the other hand, solutions reached to solve legitimate security concerns should avoid the appearance of using executive orders and regulations to extract rents at the expense of foreign investors.

The risks are several. One risk is that, in protecting the legitimate interests of the United States, our politicians paint with a broad brush, risking the creation of the perception that the U.S. is on a path descending into confiscatory policies akin to the nationalization of private party assets.  Such a path might play well for short-term political gain as feelings of nationalism are on the rise. But knee-jerk nationalism alarms international investors in the United States. Is it really necessary, for example, for Chinese investors to divest investments in companies like TikTok in order to secure the national defense? Maybe—and we should not shy away from protecting the national interest. But, in financial markets, there is a fine line between perception and reality—indeed perception often becomes reality. While some regulation is undoubtedly necessary and appropriate to protect our National interest, our government decision-makers need to be mindful of the larger context in which these decisions are made and how they will be perceived by the larger international investment community. This is why TikTok’s raising of the rule of law was effective as propaganda even if TikTok posed a security risk.

Another risk is that foreign investors perceive an erosion of respect in the United States court system for property rights—the recent appointment of Justice Amy Coney Barrett, however, is unlikely to create direct concern about protection for property rights. Nevertheless, a plan to expand the number of Supreme Court Justices might create an alarm. A concern about expanding the number of Justices is separate and apart from a concern that the appointment process of Justice Barrett required Republican Senators to completely reverse their stand about the appropriateness of Supreme Court appointments in an election year—also not a good look from a rule of law perspective—but one that is less threatening to investors because the process technically complied with existing law (even if accompanied by hypocritical rhetoric).

This, of course, is why TikTok raised the spectre of the rule of law to oppose the Trump Administration’s Executive Order, to begin with. While the response of the Chinese app maker contains an element of propaganda, it is effective as a rhetorical response precisely because it contains an element of truth.  It is not mere advocacy. The United States needs to pay particular attention in these troubled times that we collectively—and in a bi-partisan way—safeguard our national treasure of the rule of law insofar as it protects investment and private property. 

Of course, the TikTok saga is far from over. In a lawsuit filed by creators who use TikTok—and not TikTok itself—a federal judge has issued an injunction against the pending November 12 ban on TikTok in the United States based on First Amendment concerns. So the matter remains in a state of confusion—though observers still believe that the ultimate resolution will involve divestment of some TikTok assets or ownership.

The recent delay of the public offering of Jack Ma’s Ant Group on the Hong Kong and Shanghai stock exchanges is instructive. Beijing encourages Chinese hi-tech companies to list shares on Chinese stock exchanges, rather than in the United States. The sudden delay in the Ant Group offering (following a prior announcement of the offering) creates the appearance that Chinese exchanges may not be ready to challenge United States securities markets for dominance. (I say “appearance” because the public statements about the reasons for the delay—including that the provider of financial services retain some risk on loans it originates and concern over financial disclosure) seem sound. Despite the challenges TikTok has faced in the United States, TikTok and Oracle have announced tentative plans for an IPO of TikTok Global within about a year (reportedly in a United States registered public offering). The United States benefits from the impression that delays such as those faced by the Ant Group in an offshore IPO might not have happened here even though the stated reasons for delay would have concerned United States regulators as well. Some observers believe the delay actually resulted from a Jack Ma speech which upset the Chinese regulators—increasing global capital’s fear of arbitrary and capricious regulatory action. Preserving the United States as a safe haven for investment goes hand in glove with hosting the world’s premier exchanges and capital markets.

Our custodians in government need to protect the position of the United States as the preferred location for investment.

William H. Widen is a Professor of Law at the University of Miami School of Law.

 

Suggested Citation: William H. Widen, Changing of the Guard: The Rule of Law And A Safe Haven for Investment, JURIST – Academic Commentary, November 10, 2020, https://www.jurist.org/commentary/2020/11/william-widen-asset-investment/.


This article was prepared for publication by Vishwajeet Deshmukh, a JURIST staff editor. Please direct any questions or comments to him at commentary@jurist.org.


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