The Aircraft Protocol and the Imminent Entry into Force of the Rail Protocol to the Cape Town Convention: Time to Factor in Developed-developing Countries Dynamics and the Environment

The Cape Town Convention and its Protocols covering various types of assets have been lauded as one of the great successes of contemporary commercial treaty making. Indeed, the sheer number of ratifications, acceptances, approvals, and accessions speaks volumes. The Cape Town Convention is currently in force with 87 Contracting Parties, while the Aircraft Protocol for aircraft equipment has 84 Contracting Parties. The Rail Protocol for railway equipment is now about to enter into force, having reached the requisite number of four Contracting Parties, the sole outstanding issue being that of an operating international registry which is about to be set in place. The imminent entry into force of the Rail Protocol offers a welcome opportunity to consider some important policy issues, in particular where export-import support arrangements are concerned.

One of the core objectives of the Cape Town Convention regime is to facilitate the provision of accessible credit and so foster economic growth. It sets out to do so by means of a detailed legal regime with solid creditor rights in the debtor-creditor relationship as one of its cornerstones. Giving creditors an edge over debtors is often considered good for the availability of credit and acceptable where the actors involved are sophisticated market participants with more or less equal bargaining power. In any case, the Cape Town regime focuses on the relationship between the parties to the transaction financing the equipment, and in so doing, leaves important policy issues unattended to.

An earlier blog post on this forum discussed how yet another Protocol to the Cape Town Convention, this time dealing with mining, agricultural, and construction equipment (the so-called MAC Protocol), fails to take into account one such issue, namely agricultural cycles. Such cycles are a relevant factor in the enforcement regime for agricultural equipment in various jurisdictions, as apparent from a preparatory UNIDROIT document on the matter (UNIDROIT 2016, Study 72K – CGE1 – Doc. 4, especially Appendix V). In such jurisdictions, the enforcement of creditor rights is attuned to agricultural cycles so as to ensure food security. By focusing on creditor rights without regard to agricultural cycles, the MAC Protocol is at risk of creating dire situations, particularly in developing countries. Under the Protocol, an enterprise manufacturing and exporting agricultural equipment (such firms usually have their seat in a relatively wealthy country) may have the right to take away a farmer’s equipment in a developing country, for example by exporting, selling or leasing it, shortly upon a default and just prior to crucial stages in agricultural production, including harvest. Some may argue that this approach is neo-colonialist at best.

A comparable approach in terms of the dynamics at play between countries that are primarily aircraft manufacturers/exporters and other countries, including developing countries, with actors wishing to purchase or lease aircraft may be found in the Arrangement on Officially Supported Export Credits (version of July 2023), which contains a Sector Understanding on Export Credits for Civil Aircraft (Annex III). This Sector Understanding is a ‘Gentlemen’s Agreement’ concluded under the auspices of the OECD between relatively wealthy countries such as Australia, Brazil, Canada, the European Union, Japan, Korea, New Zealand, Norway, Switzerland, the United Kingdom, and the United States of America. The Aircraft Sector Understanding contains detailed guidance on the provision of export credits for aircraft. It builds on the Cape Town Convention by envisaging the possibility of a cut in applicable minimum premium rates (a ‘Cape Town discount’) for export to entities located in a State that (i) is a Contracting Party to the Cape Town Convention and the Aircraft Protocol, (ii) has made certain ‘qualifying declarations’ under the Convention and the Protocol, and (iii) has implemented the Convention and the Protocol ‘as required’. States that meet these criteria and qualify for a discount feature on the ‘Cape Town List’ (version of June 2022).

The ‘qualifying declarations’ as specified in the OECD Aircraft Sector Understanding (Annex 1 to Appendix II) significantly boost creditor rights. Whereas the Cape Town regime itself makes it possible to shape the debtor-creditor relationship to some extent by envisaging a menu of options for States to choose from, the OECD arrangement fills in these options by requiring a significant enhancement of creditor rights for the Cape Town discount to apply. Through the backdoor of this OECD arrangement, more favourable financing opportunities are thus made available as a quid pro quo for a more creditor-friendly approach. For example, the Export-Import (EXIM) Bank of the United States may charge less than would normally be required for a financing transaction between a US manufacturer/exporter of aircraft and a counterpart in a less wealthy State that fulfils the three criteria mentioned earlier. In the event of default by that counterpart, this approach implies that the US manufacturer/exporter is assured that it has extensive creditor rights at its disposal.

Moreover, the requirement of proper implementation of the Cape Town framework set out in the OECD discount mechanism ties in with the Cape Town Convention Compliance Index developed by the Aviation Working Group (AWG). The AWG is a not-for-profit legal entity comprised of leading aviation manufacturers, leasing companies and financial institutions that wishes to advance international aviation financing and leasing and that played an active part in the shaping of the Cape Town regime and its subsequent implementation. The Compliance Index assesses and scores, on a scale of 1 to 100, each country’s compliance with the treaty. One of the factors that feeds into the determination of a country’s score is eligibility for the OECD ‘Cape Town discount’. The AWG Compliance Index distinguishes between countries that have made ‘qualifying declarations’ under the OECD’s Aircraft Sector Understanding and countries that have not done so. The AWG submits that for the latter countries, ‘the relevance of a very high or high C[ape] T[own] C[onvention] compliance scoring would not be an accurate indicator of a substantially improved legal framework effected by ratification and implementation of, and compliance with, CTC by that country.’ In other words, the AWG apparently regards the level of creditor-friendliness as the actual criterion for compliance with the Cape Town regime.

Although the Rail Protocol is about to enter into force, as yet the OECD arrangement contains no coordinated export-import regime for railway rolling stock. The approach taken in the OECD arrangement in respect of aircraft, however, seems inappropriate in relation to railway rolling stock, as the actors in the rail sector are considerably more diverse than those in the aircraft sector. Moreover, rail equipment generally has an even more evident public function (think, for example, of commuting). Indiscriminately enhancing creditor rights in this context could have disruptive consequences, in particular in the context of transactions between actors in manufacturing/exporting countries and their less wealthy counterparts in the developing world. In crafting a common approach to export-import support for the rail sector these factors should be taken into account.

Regrettably, another issue not addressed in the Cape Town regime and the OECD Sector Understanding for Aircraft is the environment. Both the Cape Town instruments and the OECD text are designed to further the growth of the aircraft industry without taking any environmental ‘externality’ into account. Clearly, both aircraft and rail equipment have an impact on the environment and the unfolding climate crisis. Aircraft are deemed to be more polluting than railway rolling stock, even where the criteria for the calculation of pollution levels differ and factors such as engine type and age of the equipment may also play a role. This raises the question of whether this difference in pollution levels can be factored into the financing regime for these types of asset.

In practical terms, one way of heeding such environmental aspects would be to distinguish between aircraft and railway rolling stock in the context of the OECD arrangement for export support. Inspiration for such an approach may be found in the limitations—rather than incentives—set out in the OECD arrangement for coal-fired electricity generation plants. The development of a Sector Understanding for the rail sector would offer a welcome opportunity to bear environmental and climate change considerations in mind by envisaging better financing terms for the export of rail equipment than are available for aircraft. Ideally, of course, this would go hand in hand with a recalibration of the current Sector Understanding of the aircraft sector.

Thomas Keijser is a Senior Researcher at the Radboud Business Law Institute of Radboud University, the Netherlands.