A. Claims Under Article III:2, First Sentence of GATT 1994

1. Claims Raised by Japan

5.1 Japan claims that the National Car Programme of February 1996 violates Article III:2, first sentence of GATT 1994. (See Section III.A). The following are Japan's arguments in support of this claim:

5.2 One of the essential elements of Indonesia's National Car Programme is the discriminatory exemption from the sales tax on luxury goods (luxury tax) which would otherwise be levied on sales of National Cars. This privilege results in imposition of an internal tax on imported "like" automobiles in excess of that applied to domestically produced National Cars, thus violating Article III:2, first sentence of GATT 1994.

(a) Article III:2, first sentence requires that sales of imported products not be taxed at rates in excess of rates imposed on like domestic products

5.3 The first sentence of GATT Article III:2 provides that imported products:

Under the recent GATT/WTO precedents, Article III:2, first sentence has been applied in a straightforward manner:

The National Car Programme meets both of these criteria.

(b) Luxury tax is an internal tax

5.4 According to Indonesia's relevant laws and regulations, the sales tax on luxury goods is applicable to both domestically manufactured and imported automobiles.⁶⁰ The tax is collected from either domestic manufactures or importers, as the case may be.⁶¹

(c) National Cars are domestic products

5.5 Under the relevant regulations⁶², National Cars (or National Motor Vehicles) must be "domestically produced by using facilities owned by national industrial companies or Indonesian statutory bodies with total share belonging to Indonesian citizens". The very language of the decree thus makes it clear the National Cars are domestic products. (See Section II.B.2).

(d) National Cars and imported automobiles are "like" products

5.6 Regarding the legal test for determining "like" products, recent Appellate Body reports have repeatedly affirmed that:

5.7 However, in this present case, it is almost meaningless to discuss "likeness", because, even if vehicles identical in all aspects (including the end-uses, properties, nature and quality) with National Cars are manufactured abroad (for example, in Japan) and imported, they would still be treated differently from National Cars.

5.8 Moreover, foreign brand "like" products of National Cars (the Timor S515) actually are sold in the Indonesian auto market. As shown by the Table 11 below, the National Car - Timor Sephia sedans (1500cc) - are no different from other competitive products imported or assembled by other automakers in Indonesia. First, their common end-use in the Indonesian market is passenger transportation. Second, although consumers' brand preferences may exist, the products themselves are generally recognized to belong to the same "sedan" category. Indonesia may contend that the mere fact that the former vehicles are manufactured abroad makes them different (or that Indonesian consumers prefer domestic products, and thus, imported products are not regarded as "like" products of such domestic products). However, these arguments cannot prevail, since it would deny the fundamental principle of Article III.⁶⁴

(e) Imported products are taxed less favourably than "like" domestic products

5.9 As noted earlier, the category, or the concept of, "National Cars" consists, in principle, of domestic products. The regulation at issue accords the luxury tax exemption to this category of domestic products, thereby creating more favourable terms than imported products. In fact, paragraph (4) of Article 23 of Government Regulation No. 50/1994 on the Implementation of Law No.8/1983 on Value Added Tax on Goods and Services and Sales Tax on Luxury Goods as amended by the Government Regulation No.20/1996 provides as follows:

On the other hand, under the February 1996 Programme, no imported motor vehicles qualify as the "National Cars" and all imported sedans are subject to 35 per cent luxury tax. [(See Chart-3)]**

5.10 This mechanism deprives imported automobiles of an opportunity for tax exemption, which is available for domestic automobiles, precisely because they are imported products. To this extent, this case presents the same issue as a Panel faced in United States - Measures Affecting The Importation, Internal Sale and Use of Tobacco.⁶⁶

5.11 In that case, all imported tobacco was subject to an internal tax (the Budget Deficit Assessment of "BDA"), but not all domestic tobacco was subject to the tax. The Panel found that "the BDA, as currently applied, provided less favourable treatment to imported tobacco than to like domestic tobacco."⁶⁷

Quite similarly, at issue in this proceeding is tax exemption which is available for some domestic products (i.e., National Cars) but from which no imported products may benefit. Accordingly, imported like products are taxed less favourably than domestic products.

(f) Insignificant market share for imported sedans is not a defence

5.12 For various reasons, imported assembled sedans have earned only a fraction of the Indonesian market. The share of foreign passenger vehicles in the market was 0.28 per cent in 1994, 2.58 per cent in 1995 and 0.29 per cent in 1996.⁶⁸ However, previous Panels consistently have rejected a defence based on the insignificant economic consequence of imported products⁶⁹, and there is no reason for this Panel to diverge from that clear precedent.

5.13 Indonesia admits all the facts necessary to establish a violation of GATT Article III:2. The first sentence of Article III:2 prohibits a WTO Member from subjecting imported goods to internal taxes in excess of those applied to like domestic products. Indonesia admits that:

Therefore, Indonesia itself admits that it applies greater taxes on imported cars than it applies on like domestic products. No more need be said to establish a prima facie violation of the first sentence of Article III:2.

5.14 The Government of Japan continues to submit that the February 1996 Programme also violates the second sentence of Article III:2 (See Section V.B.1), but it considers that this point requires no more argumentation in light of Indonesia's admissions that it discriminates between National Cars and imported "like" automobiles.

5.15 Having admitted a prima facie violation of Article III:2, Indonesia raises as its only defence a series of related arguments intended to show that Article III:2 does not apply - despite its plain language - to tax discrimination of this kind. (See Section V.D.) Those arguments are meritless and should be rejected by the Panel. (See Section V.E.1.). Therefore, the February 1996 Programme violates Article III:2.

2. Claims Raised by the European Communities

5.16 The European Communities claims that Indonesia has violated its obligations under Article III:2, first sentence, by exempting from the Sales Tax on Luxury Goods the sales of the following categories of motor vehicles (See Section III.B):

5.17 The following are the European Communities' arguments in support of this claim:

5.18 GATT Article III:2, first sentence, provides that:

5.19 As confirmed by the Appellate Body in Japan - Alcoholic Beverages⁷⁰ and Canada - Certain Measures concerning Periodicals⁷¹, in order to establish whether an internal tax is applied in violation of Article III:2, first sentence, it is necessary to make two determinations:

• first, whether the taxed imported and domestic products are "like"; and
• second, whether the taxes applied to the imported products are "in excess of" those applied to the like domestic products.

5.20 Before making those two determinations, however, it must be ascertained whether the taxes in question constitute an "internal tax".

(a) The Sales Tax on Luxury Goods is an "internal tax"

5.21 The Sales Tax on Luxury Goods is levied on the sale of both domestic and imported motor vehicles and not just "on" or "in connection" with the importation of motor vehicles, even if some categories of domestic motor vehicles are subsequently exempted therefrom. Accordingly, the Sales Tax on Luxury Goods has to be considered as an "internal tax" in the terms of Article III:2, and not as an import charge within the purview of GATT Articles II and VIII.

(b) Imported products are "like" the domestic products exempted from the tax

5.22 The term "like product" is not defined in the GATT 1994. In Japan - Alcoholic Beverages⁷² and Canada - Certain Measures concerning Periodicals⁷³ the Appellate Body endorsed the basic approach set out in the 1970 Report of the Working Party on Border Tax Adjustment:

5.23 The tax exemptions provided by the measures in dispute are not based on any factor which affects of itself the properties, nature or quality of the products concerned or their end uses, nor consequently prevent the exempted products from being "like" the non-exempted products.

5.24 Exemptions (1) and (4) are based, only and exclusively, on the country of manufacture of the products.

5.25 Exemptions (2), (3) and (5) are also based on the country of manufacture of the products and, in addition, on their level of local content.

5.26 Exemption (6) applies to motor vehicles which fulfil the following three conditions:

• first, they must be National Cars manufactured by a Pioneer Company;
• second, they must have been manufactured in Indonesia; and
• third, the manufacturer must comply with certain local content requirements.

• first, the cars must be National Cars manufactured by a Pioneer Company;
• second, they must have been manufactured with the "participation" of Indonesian nationals; and
• third, they must incorporate a certain percentage of "counter-purchased" parts and components exported from Indonesia.

5.28 For the purposes of exemption (6) and exemption (7) a motor vehicle is deemed to be a "National Car" if it satisfies the conditions enumerated in Article 1 of Decree 31/96, which provides that:

5.29 Clearly, motor vehicles manufactured in Indonesia are not, by definition, "unlike" motor vehicles manufactured in the territory of any other Member.

5.30 Similarly, there is nothing which, a priori, makes Indonesian manufactured parts and components for the assembly of motor vehicles "unlike" Community manufactured parts and components.⁷⁵ It follows that motor vehicles with 61 per cent Indonesian made parts and components do not, for that reason alone, cease to be "like" motor vehicles with 100 per cent Community content for the purposes of Article III:2, first sentence.

5.31 The additional criteria on which exemptions (6) and (7) for National Cars are based do not relate, directly or indirectly, to the characteristics of those cars but, instead, to the characteristics of the car manufacturers. As established by previous Panel Reports, differences in the producers' characteristics which do not affect the products' characteristics can never justify a different tax treatment of the products involved.

5.32 Thus, the Panel report on United States - Measures affecting Alcoholic and Malt Beverages, concluded that the granting of a tax credit for beer from small breweries but not for beer from large breweries infringed Article III:2, first sentence, whether or not this credit was also available in the case of imported beer because:

5.33 This finding was invoked as a precedent by the subsequent Panel Report on United States - Standards for Reformulated and Conventional Gasoline, which in clear and unequivocal manner stated the principle that:

5.34 Although this conclusion concerns Article III:4, the Panel made it clear that the same principle applied also to fiscal measures under Article III:2.

5.35 In light of the foregoing, the European Communities submits that each of the following categories of goods should be considered as a single category of "like products" for the purposes of applying Article III:2, first sentence, in the present case:

• imported and Indonesian made motorcycles of 250 cc or less;
• imported combines, minibuses, vans and pick-ups and Indonesian made combines, minibuses, vans and pick ups, including those with a local content of 60 per cent or more;
• imported and Indonesian made buses;
• imported sedans and stations wagons of less than 1,600 cc and Indonesian made sedans and station wagons of less than 1,600 cc, including those with a local content of 60 per cent or more;
• imported motor vehicles and National Cars assembled in Indonesia by Pioneer Companies; and
• imported parts, components and raw materials for the assembly of motor vehicles and Indonesian made parts, components and raw materials, including those incorporated into imported National Cars.

(c) Imported motor vehicles are taxed in "excess of" domestic like motor vehicles

5.36 Imported motor vehicles are taxed "in excess of" domestic like products because they are always subject to the Sales Tax on Luxury Goods at a rate ranging from 20 per cent to 35, whereas like domestic products can benefit from exemptions (1) through (6).

5.37 The fact that some domestically made like products (namely, motor vehicles other than buses and motorcycles of less than 250 cc manufactured by non-Pioneer companies and with less than 60 per cent local content) are also subject to the Sales Tax on Luxury Goods does not preclude a violation of Article III:2, first sentence. As noted in the Panel Report on United States - Measures affecting Alcoholic and Malt Beverages:

5.38 For the same reasons, it is irrelevant that some of the exemptions (e.g. exemption (5)) may in practice not have been applied yet due to the temporary lack of qualifying domestic production. As noted also in United States - Measures affecting Alcoholic and Malt Beverages:

5.39 It is also without relevance that National Cars imported from Korea by PT TPN were exempted from the Sales Tax on Luxury Goods by Presidential Decree 42/96. There subsists a violation of Article III:2 because not all imported cars that are "like" the exempted domestic cars benefit from that exemption.

5.40 As put by the Panel Report on United States - Measures affecting the Importation, Internal Sale and Use of Tobacco:

5.41 By the same token, in the present case every single motor vehicle imported into Indonesia (and not just National Cars imported from Korea) should be accorded treatment "no less favourable" in respect of the Sales Tax on Luxury Goods than that granted in each case to the "most favoured" category of like domestic products.

(d) Imported parts and components are 'indirectly' taxed 'in excess of' like domestic parts, components and materials

5.42 Article III:2 prohibits not just "direct" discrimination against imported products but also any kind of "indirect" discrimination.

5.43 When the level of the tax applicable on a finished product is function of its local content level, imported parts and components are, as a result, subject "indirectly" to a tax which is in excess of that indirectly applied on domestic like parts and components. This form of indirect tax discrimination arises whether or not, in addition, there is also "direct" tax discrimination between the domestic and imported finished goods into which the parts and components are incorporated.

5.44 Confirmation of the above is provided by the Panel Report on EEC - Regulation on Imports of Parts and Components. In that case, the Panel found that the anti-circumvention duties imposed by the Community pursuant to its anti-dumping regulations on finished products assembled within the Community territory which did not meet certain local content requirements:

5.45 Exemptions (2) (3) (5) (6) and (7) are to be condemned under Article III:2, first sentence, the European Communities cites for the same reasons as the duties in the above case.

5.46 As shown above, exemptions (2) (3) (5) and (6) are "directly" discriminatory against imported motor vehicles in that they are available only for domestically produced motor vehicles. In addition, they discriminate "indirectly" against imported parts and components because, in order to qualify for the exemptions, domestic motor vehicles must incorporate a minimum percentage of locally made parts and components.

5.47 Exemption (7) does not discriminate "directly" against imported motor vehicles. To the contrary, it is an exemption reserved for certain imported motor vehicles. Nonetheless, exemption (7) infringes Article III:2, first sentence, because it is linked to a local content requirement and, therefore, discriminates "indirectly" against imported parts and components.

To Continue with Claims Raised by the United States.

⁵⁹Report of the Appellate Body on Japan-Taxes on Alcoholic Beverages ("Japan-Alcoholic Beverage II"), WT/DS8/AB/R, WT/DS10/AB/R, WT/DS11/AB/R, adopted on 4 October 1996 pp.18-19.

⁶⁰Government Regulation No.36/1996 (Japan Exhibit 25). (See also Section II.B.2.)

⁶¹Decree of Minister of the Finance No.272/KNK.04/1995 (Japan Exhibit 24); Decree of the Ministry of Finance No. 647/KMK.04/1993 (Japan Exhibit 23).

⁶²Decree of Minister of the Industry and Trade No.31/MPP/SK/2/1996 (Japan Exhibit 28).

⁶³Report of the Appellate Body on Canada-Certain Measures Concerning Periodicals ("Canada - Periodicals"), WT/DS31/AB/R, adopted on 30 June 1997, pp. 19-20. Report of the Appellate Body on Japan- Alcohol Beverages II, p.19. See also Working Party Report on Border Tax Adjustment ("Border Tax Adjustment"), L/3464, adopted on 2 December 1970 (BISD 18S/97) para.18.

⁶⁴In this connection, a panel report on Japan-Customs Duties, Taxes and Labelling Practices on Imported Wines and Alcoholic Beverages,adopted on 10 November 1987 L/6216,(BISD 34S/83),stated that, [even if consumers prefer traditional Japanese shochu to vodka]"the traditional Japanese consumers habits with regard to shochu provided no reason for not considering vodka to be a 'like' product," since "the aim of Article III:2... could not be achieved if differential taxes could be used to crystallize consumer preferences for traditional domestic products." See para .5.7 of the Panel Report. Of course, it would be difficult to assume any wider difference between domestic automobiles and imported automobiles for Indonesian consumers than the difference between shochu and vodka for Japanese consumers.

⁶⁵Government Regulation No.20/1996 (Japan Exhibit 26); Government Regulation No.36/1996 (Japan Exhibit 25) which amended the former regulation but without relevant substantive changes.

⁶⁶United States - Measures Affecting the Importation, Internal Sale and Use of Tobacco ("United States - Tobacco"), DS44/R, adopted on 4 October 1994.

⁶⁷Id. para.90. This panel further found that "an internal regulation which merely exposed imported products to a risk of discrimination ... constitutes, by itself, a form of discrimination, and therefore less favourable treatment within the meaning of Article III." (paras. 92-93, 95-98).

⁶⁸Motor Vehicle Market Share 1992-1997 (Japan Exhibit 60).

⁶⁹United States - Taxes on Petroleum and Certain Imported Substances, L/6175 adopted 17 June 1987, BISD 34S/136, para.5.1.9; United States - Tobacco, paras. 99-100.

⁷⁰Appellate Body Report on Japan - Alcoholic Beverages, WT/DS 8/AB/R, WT/DS 10/AB/R, WT/DS 11/AB/R, adopted 1 November 1996, pp. 18-19.

⁷¹Appellate Body Report on Canada - Certain Measures concerning Periodicals, WT/DS 31/AB/R, pp. 22-23.

⁷²Appellate Body Report on Japan - Taxes on Alcoholic Beverages, WT/DS 8/AB/R, WT/DS 10/AB/R, WT/DS 11/AB/R, adopted 1 November 1996, p.20.

⁷³Appellate Body Report on Canada - Certain measures concerning Periodicals, WT/DS 31/AB/R, p.21.

⁷⁴Report of the Working Party on Border Tax Adjustments, BISD 18S/97, para 18.

⁷⁵In United States - Measures affecting Alcoholic and Malt Beverages, (adopted on 19 June 1992, BISD 39S/206, at para 5.22) the Panel found that the granting of tax exemptions and tax credits by the states of Michigan, Ohio and Rhode Island only to wines produced using local ingredients was in violation of Article III:2, first sentence.

⁷⁶Panel Report on United States - Measures affecting Alcoholic and Malt Beverages, adopted 19 June 1992, BISD 39S/206, at para 5.19

⁷⁷Panel Report on United States - Standards for Conventional and Reformulated Gasoline, WT/DS 2/R, adopted 20 May 1996, para 6.11. The Panel went on to state the following (at paras 6.11 and 6.12):

See also Panel Report on United States - Taxes on Automobiles, DS 31/R, unadopted, at paras 5.53-5.54.

⁷⁸Panel Report on United States - Measures affecting Alcoholic and Malt Beverages, adopted 19 June 1992, BISD 39S/206, para 5.6.

⁷⁹Id. at para 5.39. See also Panel Report on US - Taxes on Petroleum and Certain Imported Substances, adopted 17 June 1987, BISD 34S/136, para 5.2.2; and Panel Report on Thailand - Restrictions on Importation of and Internal Taxes on Cigarettes, adopted on 7 November 1990, 37S/200, 227, para 84.

⁸⁰Panel Report on United States - Measures affecting the Importation, Internal Sale and Use of Tobacco, adopted on 4 October 1994, para 98. In support of this conclusion, the Panel referred to the "no-balancing" principle established with respect to Article III:4 by the Panel report on United States - Section 337 of the Tariff Act of 1930, adopted on 7 November 1989, BISD 36S/345, 387. This principle has been recently restated by the Panel report on United States- Standards for Conventional and Reformulated Gasoline, WT/DS 2/R, adopted 20 May 1996, at paras 6.14-6.15.

⁸¹Panel Report on EEC - Regulation on Imports of Parts and Components, adopted on 16 May 1990, BISD 37S/132 at para 5.9.