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Federalism and States' Rights in World Affairs

By

Jock O'Connell

(This article originally appeared in the Sacramento Bee Forum section on Sunday, November 4, 1990.)

For several years, Californians have nourished the agreeable little conceit that the Golden State is at least a semi-sovereign power in world affairs. Governor George Deukmejian, for example, has obviously delighted in calling attention to the fact that California, with a gross "national" product nudging the $700 billion level, ranks as one of the world's eight largest economies.

At the same time, others, including the editors of The Economist, have been effusive in celebrating California's evidently auspicious future in the emerging "Pacific Century," as though we had somehow become politically and economically unhinged from the rest of the country.

While such presumptuousness is generally regarded as quite innocent, the underlying reality may be a good deal less benign. For the fact is that California, along with a number of the other so-called megastates, seems headed almost inexorably toward an historic confrontation with the federal government over the issue of states rights in the field of international affairs.

The U.S. Constitution assigns the responsibility for managing the nation's foreign relations -- whether diplomatic, military or commercial -- to the federal government. According to most traditional interpretations of constitutional doctrine, the individual states have no independent role in foreign affairs. None other than James Madison wrote in The Federalist No. 42: "If we are to be one nation in any respect, it clearly ought to be in respect to other nations."

In real life, however, jurisdictional divisions are seldom as sharp as they appear in theory. In going about their legitimate business, states have often encroached into areas that constitutional purists would regard as federal turf. As one noted constitutional scholar, Louis Henkin, wryly notes: "...the federal system gives the states opportunities to affect foreign relations, not necessarily in happy, constructive ways."

From time to time, individual states have hampered but far from crippled the federal government's ability to conduct a coherent foreign policy. During the 1980s, governors in several states signaled their opposition to the Reagan Administration's policies in Central America by refusing to permit National Guard troops from taking part in military exercises in that troubled region. Similarly, a handful of states retain limits or outright bans on foreign ownership of farm land, even though federal policymakers have hewed to an open-door policy on foreign investment. And even though U.S. trade negotiators are demanding greater access for American firms to public procurement contracts in other countries, the laws of some states still give preferential treatment to locally-owned businesses bidding for state and local government contracts.

Yet such discordant policies and practices are mere irritants compared to what may lie ahead. Global macroeconomic developments combined with domestic political trends are recasting the traditional matrix of federal-state relations. For one thing, the boundaries between the world economy and the U.S. domestic economy are being increasingly blurred by the growing volume of international trade and foreign investment flows. As a result, what had formerly been the outside world now regularly impinges more directly than ever before on the policymaking prerogatives the states have customarily enjoyed in the area of economic and business affairs. At the same time, public confidence in Washington's ability to manage the U.S. economy is being relentlessly eroded by the federal government's inability to come to grips with the nation's immense budget and trade deficits. On top of this, White House policymaking continues to be inspired by an ideological predisposition toward even further reducing the power of the federal government to influence the nation's economic life. Owing to these developments, governors and legislatures are now being challenged to assume an even larger role in safeguarding the economic interests of their respective states.

Ultimately, the chances for serious disagreements between federal and state officials will increase as individual states aggressively pursue their own often distinctive economic objectives at home and even abroad -- or simply because state officials grow weary of the federal government's apparent inability to act decisively on other vital international policy issues. Indeed, there are signs that some state leaders have already concluded that some international issues are just too important to be left to federal policymakers.

Last winter, John Vasconcellos (D-Santa Clara), the chairman of the Assembly Ways and Means Committee, proposed that California get into the business of dispensing foreign aid when he introduced legislation to provide $150 million in state assistance to the emerging democracies of Eastern Europe. Vasconcellos' proposal, judged by the legislature's own legal counsel as an unconstitutional infringement on the federal government's foreign policymaking prerogatives, did not survive its first committee hearing. Still, the very fact that it was introduced indicates a new willingness to abjure the conventional view that the individual states have no standing in foreign affairs. Interestingly, Vasconcellos claims that it was the Bush Administration's agonizing tardiness in devising an American response to the monumental changes in Eastern Europe last year that led him to conclude that, if the federal government would not move more decisively, it was up to the State of California to seize the initiative on behalf of the United States.

Though impetuous, Vasconcellos' proposal was hardly a novel foray beyond the water's edge. As it turns out, California has been probing the limits of state's rights in foreign affairs for some time. Certainly the longest running example of the state's plunge into extra-territoriality is its use of the so-called "unitary tax," an exceptionally contentious method of calculating the income tax owed by multinational corporations doing business here. The dispute over the unitary tax has dogged U.S. relations with some of our closest allies, and efforts to have the state tax repealed have involved the highest levels of national government both here and overseas. The British parliament repeatedly threatened retaliation unless the unitary tax was abolished, and for years Japanese businesses vowed to withhold billions of dollars in new investments from California so long as the tax remained in force. On one occasion, Prime Minister Margaret Thatcher personally lobbied the issue with then President Ronald Reagan, presumably under the assumption that the federal government could compel a state to amend its tax code. Thusfar, however, no branch of the federal government has formally moved to overturn California's right to employ the unitary tax method, although pressure from the State Department and the Treasury has been very evident.

The unitary tax may once have been regarded as a fairly isolated example of the state's extra-territorial reach. After all, for much of our history, state officials simply lacked any truly effective means of expressing themselves on international issues. To be sure, resolutions condemning or praising some other nation could be passed by state legislatures, but these are rarely taken seriously. In recent years, however, the states have learned that their multi-billion dollar public employee pension funds could be used to exert an indirect but not insignificant influence in foreign affairs. Thus, along with several other states, California has been able to do more than simply voice its opposition to the apartheid policy of South Africa by restricting investments from the state's $80 billion public employees' and teachers' retirement funds to firms abiding by the "Sullivan Principles," a set of guidelines designed to ensure equal employment opportunities for all South Africans. Companies which refuse to go along risk having huge blocks of their stock dumped by state pension fund managers.

During the recently concluded legislative session, both the post-Tiananmen regime in Beijing and British rule in Northern Ireland were targets of similar "least-favored-nation" legislation. In the latter instance, efforts to restrict investments in Northern Ireland elicited a predictably neuralgic reaction from the British Government as well as the opposition of the U.S. State Department. Legislation to require disinvestment from companies doing business in the People's Republic of China met with a similarly cold response from the Bush Administration. Neither measure passed, but the pension fund club remains a potent weapon.

As one of the world's most affluent markets, California can also have a substantial impact on international trade by virtue of its independent authority to regulate a wide range of professions such as the practice of law and medicine as well as businesses such as banks and insurance companies. But it is in the field of environmental regulation where California is most apt to provoke controversy abroad as it already has in the case of auto emission standards and trade in motor vehicles. The federal Clean Air Act permits California -- and only California -- to set emission standards more rigorous than any federal standards. As a result, both foreign and domestic automakers have had to establish separate assembly facilities for motor vehicles destined for sale in California. This has fired up more than a little annoyance overseas especially among European car manufacturers who think they detect some hypocrisy in the fact that the U.S. Government, while allowing California to have a separate set of rules, actively lobbies for the elimination of differing national standards within the twelve-nation European Community.

And then there is "Big Green," the omnibus environmental initiative, formally known as the California Environmental Protection Act of 1990, which will appear on the ballot Tuesday as Proposition 128. This initiative would, among other things, bar imports of farm produce containing residues of chemicals which could not legally be used by California farmers and food- processors. According to the state World Trade Commission's agricultural trade specialist, Anne Chadwick, "Proposition 128 would violate America's international obligations by creating new trade barriers."

To be sure, health or environmental concerns constitute legitimate grounds for restricting the movement of goods. For example, motorists entering California have long encountered checkpoints erected to minimize the unrestricted importation (even from other states) of fresh fruit and vegetables that could contain pests harmful to California's $17 billion agricultural economy. Regrettably, though, bogus health and environmental concerns have also been employed to mask more pernicious economic motives behind trade barriers. In recognition of this, international negotiations are currently underway to prevent or minimize the use of import restraints based on health and environmental claims not backed by strong scientific evidence. Yet such negotiations are conducted between national governments which are presumably able to comply with the agreements into which they enter. In the case of Big Green, a subnational unit of government proposes to decree its own separate policy, thus complicating life for those U.S. officials charged with the already difficult task of negotiating agreements with other national governments. What value then do international treaties have if subnational units, like state governments in California and other places, have the right to opt out?

(It should be noted that California is by no means alone in exploring the limits of federalism. Other mega-states, most notably Texas, have also been exceptionally active in pursuing their own distinctive interests. In April 1988, a member of the Texas Railroad Commission, the state agency which regulates oil production in the Lone Star State, travelled to Vienna to meet with OPEC ministers to discuss the price of oil -- something even the U.S. Government does not do. Moreover, last year, the Texas Agricultural Commission attempted to circumvent U.S. trade policy during a dispute with the European Community (EC) over hormone- treated beef imports by offering to independently certify that beef shipments from Texas were hormone-free. Citing the absence of scientific evidence indicating these hormones posed any danger to human health, U.S. trade officials contended the EC had no right to block shipments of hormone-treated beef. The Texas move effectively undercut the U.S. position in this so-called "Beef Beef" -- much to the consternation of federal officials.)

The broader implications of regulatory initiatives like Proposition 128 and the threat of using the pension fund club against unpopular regimes overseas have not gone entirely unnoticed. Although standing on different sides of the issue, both the Democratic and Republican candidates for governor have indicated that Proposition 128 is an issue that Californians and not the federal government should decide. Such rhetoric, as state Senator Rose Ann Vuich (D-Dinuba) recently observed, definitely "raises the issue of the limits of federalism."

For a variety of reasons ranging from the shift of responsibility for a growing number of public programs to the state capitals under the Reagan Administration and to the growing internationalization of the U.S. economy, the issue of states rights in foreign affairs will almost certainly become more acute in the next few years.

Over the past decade, the responsibilities of the state governments have been significantly enhanced by the Reagan Administration's application of its "New Federalism" doctrine. In general, the Reagan Administration deliberately sought to down-size the federal government by eliminating or cutting back on hosts of federal programs and services. In its effort to get government out of the marketplace and off the backs of business people, the administration also decimated some programs designed to assist businesses. This was especially true in the case of export assistance programs which paradoxically were being cut just as the U.S. trade deficit burgeoned to levels wholly unprecedented in history.

Beginning in 1982, California responded to the federal retreat from trade promotion services by creating the California State World Trade Commission as well as an export finance program to aid small and medium-sized California businesses, a matching fund program to help market California farm products overseas, a state Energy Commission effort to facilitate the export of alternative energy technologies developed by California firms, and a network of overseas trade and investment offices in Tokyo, Hong Kong, Mexico City, London and Frankfurt.

Yet as the 1980s wore on, California, like other states, recognized that establishing programs to boost exports and attract foreign investment funds represented at best a partial response to changing economic circumstances. Twenty years earlier, in the 1960s, foreign trade represented only about 4 percent of the nation's Gross National Product, and much of that was limited to the trade conducted between U.S. automakers in Detroit and their Canadian subsidiaries in neighboring Ontario. Today, approximately three-quarters of the products sold in the U.S. market are subject to foreign competition, and the nation's trade deficit has become one of the most closely watched indicators of the country's economic health. State officials are now learning that their economies are part of an increasingly interdependent world economy and that this new reality affects a vast array of state activities from education to employment development, from infrastructure to tax policy.

In short, state leaders can no longer afford to regard international commerce as strictly a federal matter.

At the same time, state officials can no longer count on Washington being able to manage the nation's economy by manipulating the customary levers of monetary and fiscal policy. To a large extent, economic policymaking at the federal level has been incapacitated by political gridlock over the U.S. budget deficit. Moreover, during the past decade, the U.S. has gone from being the world's largest creditor nation to being its biggest debtor. As a consequence, the country has become precariously dependent on foreign capital to sustain its economic growth and to finance federal profligacy. And like most debtors, we are no longer entirely in control of our financial affairs. To an unprecedented degree, the actions of the U.S. Treasury and the Federal Reserve are now swayed by considerations of how foreign investors and central banks overseas will react.

Under such circumstances, prudent state government leaders -- not to mention those with political ambitions -- can be expected to at least seek to fill the vacuum left by growing impotence at the federal level. Judging by their campaign rhetoric, neither Dianne Feinstein nor Pete Wilson would be likely, as the next Governor of California, to take a back-seat to federal policymakers on issues seen as vital to the interests of Californians. The opportunity for either to acquire new powers seems further enhanced by the continued domination of the Bush White House by individuals like John Sununu and Richard Darman who remain ideologically committed to emasculating the federal government's ability to influence the nation's economic and business affairs.

Apart from losing faith in Washington's capacity for maintaining economic equilibrium throughout the nation, industrial states like California, New York, Massachusetts, Connecticut, Washington and Oregon -- whose economies are especially reliant on international commerce -- may begin to identify themselves more and more as participants in the global arena rather than merely as integral parts of these United States. This creates another potentially divisive dimension to the politics of American federalism. To the extent such states have distinctive economic interests, they may also feel less constrained about pursuing those interests independently, just as Texas has done in recent years.

Moreover, as the globalization of the economy reshapes the way we do business, it may even affect our traditional governmental structures. For example, residents of the western states may eventually come to question why they have more formal political links with Vermont and South Carolina than they do with their immediate neighbors and trading partners in the northern states of Mexico or the western provinces of Canada. In time, such musings about the widening discontinuities between our economic affairs and our political ties may prompt steps to forge new political structures. While these may initially take the shape of more substantive transnational administrative bodies designed to deal with specific sets of cross-border issues, in time such bodies may serve as the precursors to more formal political alignments.

In California's case, the economically-induced tendency to look beyond our shores and away from the nation's heartland is reinforced by potent demographic changes. As the percentage of residents of Asian and Hispanic heritage grows, the state's socio-political gyroscope will shift away from its former Eurocentric or "Back East" orientation to one focused more and more on Latin America and the Far East.

California has in recent years seen its international trade outpace its overall economic growth. While a number of factors such as deficiencies in the educational system, a deteriorating infrastructure, urban congestion and high housing costs threaten California's economic growth, the state remains the home of many of America's most internationally competitive industries. In fact, just over the past three years, while California's economy expanded by some 26 percent, the state's merchandise exports exploded, growing by a remarkable 70 percent. Any federal policy proposals or new national legislation which might retard future growth in exports or otherwise undermine the competitiveness of California industry will likely be met by a vigorous challenge by the state's political leaders.

People's lives are fundamentally shaped by their economic circumstances. To assume that pervasive economic changes (abetted by demographic change) will not affect the way we govern ourselves is a serious mistake. Although neither California nor any other state is about to secede from the Union, there are powerful centrifugal forces emerging which point toward an era of greater disharmony between Washington and the state capitals.

And therein lies the essence of the dilemma of federalism in the new international economy. On the one hand, the laudable objective of bringing discipline to a potentially chaotic world trading system places an enormous premium on the ability of national governments to negotiate and implement meaningful trade accords. Yet this goal is easily vitiated if subnational units of government are permitted to go their own way on important economic matters. This reality, together with the weight of constitutional doctrine, seems to suggest that states rights should give way before federal prerogatives.

On the other hand, though, can state government officials be reasonably expected to cede full responsibility over the economic welfare of their citizens? Even though governors and legislators have only a very limited capacity for macroeconomic intervention in their states' economies, the perverse fact of political life is that voters nonetheless hold them accountable for economic malaise. Moreover, if all politics are ultimately local politics and if grass-roots politics are chiefly driven by such fundamental considerations as jobs and taxes, then the internationalization of the domestic economy has seriously complicated politics and policy-making at both the federal and state levels. There is simply too much jurisdictional overlap for either side to comfortably back off.

How to manage this dilemma without undue harm to the Golden State's competitiveness is a critically important issue that has thusfar received altogether too little attention. Yet as the global economy becomes a more pervasive feature of everyday life, a "nation-state" like California will most assuredly be tempted to act in ways that pose new challenges for American federalism.

Copyright (c) 1990 by J. A. O'Connell

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