4.29 For its aim-and-effect test, the United States referred the Panel to the reasoning of the 1992 Malt Beverages panel report, as it specifically addressed the issue of product differentiation based on facially-neutral criteria:

4.30 The United States also referred the Panel to the statement of the panel in the US Auto Taxes report:

4.31 The United States went on to argue that the same analysis that was developed in the US Auto Taxes panel report should be applied to the Japanese taxes at issue here. The United States argued that Japan�s tax system applicable to distilled spirits has the aim and effect of affording protection to domestic production of shochu. For this reason, and because white and brown spirits have similar physical characteristics and end-uses, the United States requested the Panel to find that white and brown spirits are "like products" in the sense of the first sentence of Article III:2, and therefore that the difference in tax treatment between shochu and vodka, rum, gin, other white spirits, and whisky, brandy and other brown spirits is inconsistent with Article III:2, first sentence.

4.32 On the issue of the burden of proof, the United States argued that it is up to the complainant to produce a prima facie case that an origin-neutral measure has both the aim and effect of affording protection to domestic production. Once the complainant has demonstrated that this is the case, then it would be up to the defending party to present evidence to rebut the claim. The panel would decide whether it were more likely than not that the measure is applied so as to afford protection. As in the usual panel proceeding, only the respondent would have an interest in showing that one of its (origin-neutral) domestic measures did not have protective aim or effect.

4.33 Japan, argued that the consistency with Article III:2, both the first and the second sentences, of a different treatment of products should be judged in light of paragraph 1 of the Article, in particular the language "not be applied ... so as to afford protection to domestic production", and that whether or not the tax at issue is designed "so as to afford protection to domestic production" should then be judged by whether it had the "aim" and "effect" of affording protection. Japan submitted that the more recent criteria of "like products" can be found in the 1992 Malt Beverages panel report which stated that "the Panel considered that the limited purpose of Article III has to be taken into account in interpreting the term �like products� in Article III. It established that Article III:2 does not prohibit classification of products for a legitimate policy goal:

4.34 Japan continued in stating that these more recent criteria are in contrast to the 1987 Panel Report which found "likeness" on the basis of physical similarities, identical end-uses and customs classifications, and did not allow difference in treatment between like products. Japan also referred to the US Auto Taxes report which also applied the aim-and-effect test in respect of taxation:

4.35 Developing further the criteria to be used under this aim-and-effect test, Japan argued that the aim of the Liquor Tax Law is not so as to afford protection or protectionist. The legislation pertains to neutrality and horizontal equality in equalizing the tax/price ratio burden across tax categories. Nor does the Liquor Tax Law have the effect of protecting domestic production since it does not distort the competitive relationships between imported and domestic products based on the three following cumulative criteria: 1) the neutrality of the tax burden among categories of the legislation under examination, 2) the production of the allegedly protected products outside the imported country and of the allegedly "imported" products in the country, and 3) the absence of a directly competitive or substitutable relationship (cross-price elasticity) between the imported and domestically-produced products. Japan argued that if there is no difference in tax burden, the system does not distort trade; if directly competitive and substitutable relationships do not exist, differences in tax burden do not matter; if the products at issue are produced in and out of the country, the tax differentiation should not be construed to afford protection to domestic production. Protective distortion can be shown only when all of the three requirements are met. Japan further argued that as one examines the relative tax burden between the products in question, the tax burden should be measured by the tax/price ratio, a yardstick which best captures the impact on consumers' behaviour. In examining whether or not the category in question is almost exclusively domestic, what needs to be examined is not import ratios, but whether or not an allegedly "domestic" category is produced in other countries and whether or not "imported" products in question are also domestically produced.

4.36 The Community responded that the aim-and-effect test is inconsistent with the ordinary meaning of Article III:2, first sentence, and contrary to the specific purpose of this provision. Previous panels have taken the view that the interpretation of the term "like product" should be made on a case-by-case basis as this term may have a different scope in each of GATT provisions in which it is used. For instance, the notion of "like product" has traditionally been given a broader interpretation in the context of Article I:1 or Article III:2 than in the context of Article VI. Nonetheless, it remains that, in conformity with the ordinary meaning of the word "like", the notion of "like product" is in all cases an objective one, exclusively related to the characteristics of the product. The "purpose (or aims) and the effect" of a regulatory measure are totally alien to that notion. An apple does not cease to be an apple only because the legislator does not pursue evil intentions when decreeing that it is an orange. Moreover, the aim-and-effect test effaces the clear textual difference between the first and the second sentences of Article III:2. For the Community, the ordinary meaning of Article III:2 is that the first and the second sentences of this provision set out different legal requirements and that only the second sentence refers to the first paragraph of Article III. This results clearly from the use of the word "moreover" at the beginning of the second sentence as well as from the Note ad Article III:2. This does not mean that the first sentence of Article III:2 has a purpose contrary to the general principle set forth in Article III:1. The Community argued that the reason why the first sentence of Article III:2 does not refer to Article III:1 is because the imposition of taxes on imported products in excess of those imposed on domestic products is presumed inherently protective and therefore contrary in all cases to the general principle set forth in Article III:1; and this presumption is an irrefutable one. The first sentence of Article III:2 thus lays down the evidentiary rule that in the case of tax discrimination between like products, a demonstration of protectionist effect is not required. In the Community's view, the aim-and-effect test nullifies this rule through the subterfuge of forcing the requirement "so as to afford protection" into the definition of "like product".

4.37 Moreover, the Community argued that the interpretation of "so as to afford protection" as requiring both a protectionist purpose and a protectionist effect is by no means mandated by the ordinary meaning of these terms. For instance, the Shorter Oxford Dictionary defines the conjunction "so as" in the following terms: "followed by an infinitive, denoting result or consequence". In turn, the French words "de manière à" are defined by the Dictionnaire Petit Robert as "propre à obtenir telle conséquence". Moreover, this interpretation is incompatible with the specific purpose of Article III:2 and, more generally, with the basic objective of Article III, which, in the Community�s view, has been variedly but consistently defined as: ensuring "that internal taxes on goods should not be used as means of protection"; the "ensuring of a certain trade neutrality"; "to provide equal conditions of competition once goods had been cleared through customs"; "promoting non-discriminatory competition among imported and like domestic products"; and obliging the Members "to establish certain competitive conditions for imported products in relation to domestic products". The obligation to provide equal conditions of competition to imported like products is an obligation to ensure a certain result. The nature of the policy objectives pursued by Members cannot have any bearing on whether this result is or is not attained. The purpose of Article III:2 would be defeated if measures which have a clearly protectionist effect had to be tolerated simply because such effect is not deliberately pursued. For this reason, the Community submits that even if the requirement "so as to afford protection ..." was a valid criterion for a like product determination under Article III:2, first sentence, the purpose of the measure would still be irrelevant. The Community also added that the aim of a system of internal taxation only becomes relevant in order to determine whether an infringement of Article III:2 may be justified under Article XX. Thus, a finding that a tax measure is inconsistent with Article III:2 does not necessarily entail a finding that such measure is contrary to GATT.

4.38 The Community argued that the interpretation of Article III:2, first sentence, made by the 1992 Malt Beverages panel report reflects the panel's concerns that the traditional interpretation of this provision could be excessively rigid and lead to the automatic condemnation of innocuous regulatory distinctions. In the Community's view, these concerns were exaggerated. In the first place, Article III:2, first sentence, is subject to the general exceptions provided for in Article XX. Second, as noted in paragraph 4.13, it seems possible, without abandoning the traditional interpretation of Article III:2, first sentence, to introduce two kinds of flexibility in its interpretation. Moreover, according to the Community, the concerns expressed by the 1992 Malt Beverages panel seem to have been motivated by the application of Article III:4 rather than by the application of Article III:2. Indeed, the reliance by the panel on the aim-and-effect test was unnecessary to reach the conclusion that Mississippi wine made from a specific grape was "like" wine made from other grape varieties. This conclusion could have been easily reached through the application of the traditional criteria based on the physical characteristics and end-uses. In contrast, in the case of the non-fiscal regulatory distinctions between low and high alcohol beer, the panel was confronted with the difficulty that while these two products are clearly similar in terms of physical characteristics and end-uses (albeit not identical), this distinction did not have a clear protectionist purpose or effect. Unlike Article III:2, Article III:4 does not include a second sentence dealing with substitutable or directly competing products and referring to the "so as to afford protection test" of Article III:1. Thus, unlike in Article III:2 cases, the panel did not have the possibility to hold that low and high alcohol beer were competitive products, rather than like products, in order to decide the claim in the light of the �so as to afford protection� test. Instead, the panel turned this test into an element of the definition of like product. On the premise that the notion of like product must be interpreted identically in Article III:4 and Article III:2, this approach was then mechanically applied to the Mississippi wine issue, even though it was unnecessary. This discussion, according to the Community, shows that, although both Article III:2, first sentence, and Article III:4 are concerned with discrimination between like products, there are important differences between the two provisions.

4.39 In support of its arguments, the Community stressed the differences between Articles III:2 and III:4 of GATT 1994.

(1) Unlike Article III:2, first sentence, Article III:4 is not complemented by a second sentence dealing with substitutable and directly competing products and referring to the principle set forth in Article III:1. Thus, unlike the ordinary meaning of Article III:2, first sentence, the ordinary meaning of Article III:4 does not preclude the possibility of reading an implicit reference to the "so as to afford protection ..." test.

(2) Article III:2, first sentence, lays down a specific and well defined obligation: not to impose higher taxes on imported products than on domestic like products. As explained above, the rationale for this unqualified prohibition is that discriminatory taxation is considered as inherently protectionist. In contrast, the scope of the obligation laid down in Article III:4 is much less precise: to accord "treatment no less favourable" (and not equal treatment). In practice, a determination of what constitutes "less favourable treatment" can only be made in light of the principle set forth in Article III:1, i.e., by assessing the protectionist effect of the measure.

(3) As explained above, other panels have acknowledged that the scope of the term "like product" may differ from one GATT provision to the other. In light of the different scope of the obligations laid down in Article III:2, first sentence, and Article III:4, it might be justified to adopt a narrower view of what constitutes a "like product" under Article III:4 than under Article III:2 by requiring that in order to qualify as "like products" under Article III:4, two products be more "like" in terms of physical characteristics and end-uses than it would be required under Article III:2, first sentence.

4.40 On the relationship between Articles III and XX, the United States suggested that the Panel refrain from an approach that would condemn all origin-neutral regulatory distinctions other than those founded on an objective listed in Article XX. Laws and regulations routinely draw distinctions between products which in some cases are treated equally, but are in other circumstances treated differently in order to carry out domestic social, cultural, religious, political and other policies unrelated to an Article XX objective. The United States submitted examples relating to a number of such policies, such as policies protecting historic buildings not in the "national treasure" class, policies against lèse majesté, policies protecting foreign art, non-protectionist food labelling rules and Sunday closing laws. ⁴⁵ Sunday closing laws could disproportionately affect supermarkets and other large retail businesses which distribute goods of foreign origin. These stores sell exactly the same products on Sunday and on the other days of the week. The United States asked whether such measures should be deemed to be violations of Article III simply because of the disproportionate impact of Sunday closing laws on imports. The United States emphasized that governments make regulatory distinctions for many reasons that have nothing to do with trade protection. For the United States, this is what the panel in the 1992 Malt Beverages case recognized in analyzing the regulatory regime for low alcohol and high alcohol beer. That panel wisely sought to avoid a result that would make even an unintentional coincidence between domestic regulation and the presence or absence of foreign competition in the market amount to a violation of Article III:2. Such a result would encroach on the policy options available to legislators and regulators to an extent unanticipated when GATT was drafted. Moreover, the United States submitted that the recognition that regulatory distinctions other than those listed in Article XX are compatible with WTO principles can be found in the TBT Agreement as further detailed in paragraph 4.25 above. The United States further submitted that if national treatment obligations in GATT and the General Agreement on Trade and Services ("GATS") were to be interpreted consistently, a discrimination test linked only to enumerated general exceptions would lead to difficult conclusions in the case of GATS which has a narrower exceptions list than GATT�s. Many laws and regulations governing the behaviour of services providers draw distinctions between categories of otherwise "like or competitive" providers based on objectives wholly unrelated to the general exceptions set out in GATS Article XIV. The United States concluded that WTO Members are permitted to make regulatory distinctions among products that might otherwise be considered "like", but they must have a legitimate objective for doing so.

4.41 For the Community, the parallelism drawn by the United States to the application by panels of Article XX or the TBT Agreement was misleading. Article XX lays down a limited list of exceptions. Moreover, the application of the exceptions is subject to a number of requirements defined in the chapeau of Article XX, as well as in each of the specific grounds of justification. Likewise, the TBT Agreement contains a list of grounds of justification. Even if the list is open, it provides panels with some guidance in order to determine what may constitute a "legitimate policy objective". Further, the TBT Agreement lays down strict requirements concerning, inter alia, proportionality, risk assessment, duration, compatibility with existing international standards, transparency and recognition of equivalent standards. For the Community, all these safeguards are absent in the aim-and-effect test. Under this approach, any non-protectionist ground may provide a valid justification for discriminatory taxation. Moreover, the aim-and-effect test does not incorporate any proportionality requirement. Last but not least, under this approach public policy objectives are not exceptions to an obligation but the criteria for defining the scope of the obligation. As a result, the burden of proof, which in Article XX and the TBT Agreement lies with the respondent, is subtly but effectively shifted to the complainant. Given the extreme difficulty of positively proving a protectionist purpose (as opposed to refuting the proof that a measure does not have a specific non-protectionist purpose), the mere invocation by a defendant of a non-protectionist purpose may suffice in practice to exclude the application of Article III:2. For the above reasons, the aim-and-effect test could have the perverse effect of rendering Article XX redundant with respect to Article III:2. The grounds of justification listed in Article XX can also be invoked under the aim-and-effect test (why should legitimate policy objectives already recognized by GATT be deemed less worthy than non-recognised ones?). Since the conditions for the application of Article XX are more restrictive, no Member would bother to invoke Article XX. Indeed, why would any Member go through the pain of arguing that a discriminatory measure is "necessary" to protect human health, if it could simply argue that because the measure has no protectionist purpose, the products concerned are not �like� and the prohibition of discrimination does not apply? Concerning the reference to GATS made by the United States, the Community argued that GATS Article XVII differs substantially from GATT Article III:2, first sentence. While a finding that Article III:2, first sentence, has been infringed does not require proof of protectionist effect, GATS Article XVII provides that formally identical or formally different treatment shall be deemed to be less favourable only if it modifies the conditions of competition in favour of like domestic services or service suppliers. Moreover, GATS Article XVII only applies to the sectors inscribed in the Member�s schedule and subject to any conditions and qualifications set out therein. In contrast, the national treatment obligation in GATT Article III applies in respect of all sectors and may not be subject to any conditions or qualifications.

4.42 The Community also pointed out that the Panel should be advised of the risks involved in the aim-and-effect approach. For example, the aim-and-effect test could open the door to claims that the extraterritorial application of environmental regulations concerning non-product related processes and production methods is not contrary to Article III. ⁴⁶ Likewise, under the aim-and-effect test, one could argue that the imposition of a higher sales tax rate on products which have been manufactured by workers whose wages are below a certain level or who are required to work on Sundays does not infringe Article III:2 (even if the taxes have a disproportionate impact on imported products) because the tax differential is based on non-protectionist social considerations. ⁴⁷ Moreover, there is a risk that the aim-and-effect test could contaminate other GATT provisions and, more generally, the entire WTO system by substituting for some of the hard-and-fast rules at the heart of the system the unpredictable balancing of ill defined "legitimate policy objectives". The Community concluded that if the general opinion were that the exceptions provided for in Article XX are not sufficient in relation to Article III:2, first sentence, the only approach consistent with the WTO Agreement would be to amend Article XX in order to add new grounds of justification and/or to relax the conditions for their application. Articles 3.2 and 19.2 of the DSU make clear that panels cannot add to or diminish the rights and the obligations of the Members under GATT. Thus, panels are precluded from engaging in the creation of new exceptions to existing obligations even when this appears to be necessary in order to fill GATT lacunae. For all these reasons, the Community requested the Panel not to consider the aim-and-effect test for the application of the first sentence of Article III:2.

4.43 Japan argued that in its view even the Community has come to agree that the analysis of the phrase "so as to afford protection to domestic production" requires the analysis of both purpose (i.e. aim) and effect despite its argument to the contrary, and that, therefore, the Community should accept that the aim of the measure should not be irrelevant if and when the phrase "so as to afford protection to domestic production" needs to be examined in regard to the first sentence of Article III:2. Japan further argued that there is no reason to require the "aim" of the tax difference in question to fall under one of the exceptions in Article XX. The 1992 Malt Beverages panel report concluded that the regulatory distinction was not so as to afford protection and reached this conclusion as a matter of the interpretation of Article III; the panel did not apply Article XX to a measure which is otherwise inconsistent with Article III. There is no reason, therefore, to restrict justifying "purposes" to those listed under Article XX. This issue ought to be interpreted on a case-by-case basis in light of the purpose of Article III. Moreover, for Japan, the Community's concern over the burden of proof of the "aim" is unfounded. Japan does not believe that a mere claim of "legitimate purpose" can, or should, automatically override obligations under Article III. The practice of GATT dispute settlement is that both parties play the alternate role of claim and rebuttal. Under such practice, the defending party will be expected to present evidence to prove that there is legitimate rationale other than protection, which the complaining party or parties will rebut. The complaining party or parties, in turn, will present evidence of protectiveness, to which the defending party will make its rebuttal. On the basis of evidence thus available, panels can and should render judgment on protectiveness in the "aim" of a disputed measure. Therefore, Japan does not believe that the aim-and-effect test would lead to loss of discipline under Article III:2.

4.44 The Community replied that in the end panels would have to put the burden of proof on one of the parties. If the legitimate purpose is integrated into Article III of GATT as it is in Article 2.2 of the TBT Agreement, the final assessment of a panel would be along the following lines: The complaining party has offered no convincing proof that the legitimate purpose mentioned by the defendant was not the real purpose but protectionism. Whereas in an Article XX situation, the final assessment would be: The defendant party has not been able to show that the measures was necessary for, e.g., animal health. In the final analysis, the difference is important and the shift of burden of proof is important. In Article 2.2 of the TBT Agreement this was clearly desired by the Uruguay Round negotiators; in respect of GATT Article III:2 it was not.

4.45 The Community went on to argue that, without abandoning the traditional interpretation of Article III:2, first sentence, two kinds of flexibility could be read into its wording. The first flexibility is found in the interpretation of the notion of discrimination in the case of graduated systems of taxation of like products. For example, if all cars are considered like products, it may be possible to accept that a system of graduated taxes based on engine displacement or weight is not discriminatory as long as the tax increases proportionally to engine displacement or weight and applies equally to domestic cars with the same engine displacement or weight. This requires a review of the tax system as a whole as applied to a broad category of like products (here: cars). The Community argued that this form of flexibility seems to have been envisaged by the 1987 Panel Report which, after noting that the specific tax rates on special grade whisky/brandy were considerably higher than the specific tax rates on first and second grade whisky/brandy (all of which had been previously found to be like products), observed that

4.46 The United States reiterated that the plain language of Article III:2, first sentence, condemns measures that explicitly target foreign products and accord them less favourable treatment. This, in the US view, makes sense because the discriminatory aim of such measures is apparent. However, when a measure is origin-neutral and therefore such an aim cannot be presumed, it does not make sense to say that the purpose of the measure becomes irrelevant. The United States noted that Article III is designed to protect against discrimination, not to create a per se rule of absolute liability for any greater burden or restriction on international trade. All direct and indirect regulation of goods has domestic and international trade-restricting effects, because by its nature regulation imposes burdens. For the United States, the rule proposed by the Community would mean that a government could not adopt any measure, irrespective of its purpose, if the measure had the effect at some point of burdening foreign more than domestic products. Such a "pure effects" test would give no guidance or certainty to legislators or to their legal advisers, because in any situation its application could change from day to day based on international and domestic factors that could not be anticipated at the time a measure is adopted. In the US view, the Community has recognized that its "effects" rule would position perfectly desirable, non-discriminatory governmental regulations - including measures maintained by the Community and its member States - under a legal guillotine. To address the obvious overbreadth of its own legal theory, the Community had invented two arbitrary "flexibilities". The United States asked the following questions: What if two automobiles with different engine displacement have identical fuel economy and emissions - why should not these automobiles be "like"? In the US view, this demonstrates that the Community, while claiming to disregard the issue of legitimacy of policy purpose, cannot really do it. The Community simply wants panels to make an ad hoc judgment that the engine displacement criterion used in EC auto tax schemes would remove these taxes from the "guillotine rule" of the first sentence of Article III:2. How many more flexibilities would future panels need to invent to deal with the fact that the EC rule simply overreaches, asked the United States?

4.47 For Japan, in introducing two kinds of "flexibility" into the first sentence of Article III:2, which qualifies the application of the "two-step" approach, the Community seems to recognize that the application of the "two-step" approach does encounter situations in which such an additional concept as "flexibility" is needed in order to make its application more relevant and applicable to reality. As a result, in Japan's view, the Community's approach appears to have much in common with the aim-and-effect test approach which, in Japan's view, can deal with such situations in a logical, systematic manner. Japan notes that the Community argues that "graduated taxation" applied "proportionally" based on "objective differences" may be consistent with Article III:2, first sentence. Japan argued that the Community fails to explain why such a differentiation is not discriminatory when applied to "like" products; a "graduated" taxation based on alcoholic strength for liquors or engine displacement or weight for cars can still result in a tax on imported products in excess of that on domestic products which may be considered as "like" in terms of physical characteristics, end-uses or consumers' habits. Japan submitted that it is because of this problem that the Community had to introduce an element of "flexibility" alien to its two-step approach. For Japan, if the "graduated taxation" is consistent with Article III: 2, first sentence, it must be because such a taxation system, being based on objective differences among products, has no "aim" to distort competitive relationships between imported goods and domestic products, nor the "effect" of distorting the competitive relationship. The second flexibility advanced by the Community poses another problem, according to Japan, because the Community is not able to establish criteria by which automobiles with different engine displacement cease to be "like" and become "directly competitive or substitutable". Japan argued that the Community would judge automobiles with different engine displacement "unlike", in introducing criteria other than physical characteristics, end-uses and consumers' habits. Third, in support of its argument that the purpose of the measure would be irrelevant in applying the test of "so as to afford protection to domestic production", the Community claims that the language "so as to" connotes "result or consequence". However, the language "so as to" normally means "with the intent or result" according to the Concise Oxford Dictionary of Current English or "for the purpose" according to the American Heritage Dictionary, 2nd edition. It should certainly include "aim" as well. For Japan, this confirmed that Article III:2, including its first sentence, should be interpreted in light of the test of "so as to afford protection to domestic production", and that this language should be applied by judging whether or not the measure in question has the "aim" and the "effect" of protection.

4.48 The Community responded that the first flexibility was not alien to the two-step approach. It simply would require a panel to look at a whole category of imported like products (such as white spirits) and determine whether the category as a whole is taxed in excess of the corresponding category of domestic products. This would not be the case if the proportional variations in taxation on the basis of, e.g., alcohol content, are equally and uniformly applied to this category of like product, both domestic and imported. First the group of like products is determined, next whether they are taxed equally is examined. The ultimate consequence of this approach would be that two shochus of different degrees of alcohol would have to be regarded as products which are not "like" but merely as "competitive and substitutable". As regards the second flexibility, the Community argued that a line must be drawn somewhere between "like" products and "competitive or substitutable" products. It is obvious that this is done, contrary to Japan's assertions, on the basis of physical characteristics and end-uses. On that basis, panels must decide whether differences in engine displacement between cars are a matter of gradual difference within a category of "like" products, or if the difference between a 1000 cubic centimetres utility car and a four-litre racing car is such that they are merely competitive and substitutable. Such physical differences are the reason why the Community has admitted that shochu and brandy are not "like" but merely "competitive and substitutable".

4.49 Canada also responded to Japan's argument that the 1992 Malt Beverages panel report sets out an aim-and-effect test under GATT Article III:2, second sentence. Canada recalled that as authority for this argument, Japan cites the statement by the panel, in examining the issue of "like products" under Article III:4, that "[t]here was no evidence ... that the choice of the particular [alcohol] level has the purpose or effect of affording protection to domestic production". ⁴⁹ For Canada, however, even a cursory reading of the panel's statement clearly shows that the words "aim and effect" are not used by this panel. The panel wording cited by Japan refers to purpose "or" effect. In fact, Canada argued that the words "aim and effect" do not appear anywhere in the 1992 Malt Beverages panel report. These words rather appeared for the first time in the unadopted US Auto Taxes panel report that, pursuant to paragraph 1(b)(iv) of GATT 1994, has not been "integrated" into GATT 1994. According to Canada, if one would follow Japan's interpretation that the express wording of the 1992 Malt Beverages panel report applies to Article III:2 second sentence, the Liquor Tax Law would be inconsistent with Article III:2, second sentence, if it had either the purpose or the effect of affording protection to domestic shochu production.

4.50 The United States responded to the Canadian argument that in the 1992 Malt Beverages panel report the formulation was "aim or effect", not "aim and effect." The United States first made the grammatical point that the reference to "aim or effect" cited by Canada, from paragraph 5.74 of the 1992 Malt Beverages panel report, is phrased in the negative: that "there was no evidence submitted to the Panel that the choice of the particular [alcohol] level has the purpose or effect of affording protection to domestic production." As a matter of grammar, if an "or" appears in a negative statement, the positive version of the same statement could well have an "and". The internal and external evidence indicates that there was no inconsistency intended between the 1992 Malt Beverages and the US Auto Taxes panel reports. The test, for the United States, is not purpose "or" effect, but purpose "and" effect; in the US view, "aim" and "purpose" are interchangeable. "Purpose or effect" would mean that an origin-neutral regulation could be condemned solely on the basis of its purpose. The United States does not agree with this interpretation because it believes that the "effect" of legislation matters. An examination of the effects can tell if a measure is targeting imports, and if there is cross-price elasticity of demand between the relevant products. Moreover, as the United States had argued in relation to the Community�s discussion of "effects", an "effects only" test is also a poor idea and unimplementable. For the United States, all taxation or regulation causes some degree of market distortion, and often it is not possible to know in advance what the effect of a tax or regulation on the market or the economy will be. Domestic products and imported products are different groupings of goods with differing characteristics. In the US view, the "effects only" test would imply that all internal measures maintained by the Community and its Member States should be reviewed and judged solely in relation to whether they happen to disadvantage imports, a position which would have sweeping effects. Since it is generally accepted that imported products have an income elasticity greater than one, and domestic goods have an income elasticity less than one, adoption of an "effects test" as posited by the Community would mean that every time the Bundesbank, or any other central bank, takes actions that reduce economic growth, these measures would be inconsistent with Article III.

a) The First Step of the Test: Like Products

4.51 In referring to the first step of the legal test it suggested for the first sentence of Article III:2 -- the like product assessment, the Community argued that the physical characteristics and manufacturing process of spirits and shochu A and B are similar: The two categories of shochu and most of the liquors falling within the category "spirits" are white/clear beverages with a relatively high alcoholic content made by distillation from the same large variety of raw materials (e.g., grains, potatoes ...). A comparison of the legal definitions of shochu and of the category of "spirits" contained in articles 3.5 and 3.10 of the Liquor Tax Law demonstrates that the only differences between these two categories are that shochu cannot (1) be made from sugar cane and distilled at less than 95 per cent of alcohol (such as rum); (2) have other ingredients added at the time of distillation (such as gin); (3) be filtered with charcoal of white birch (such as vodka); (4) have an alcoholic content in excess of 45 per cent, in the case of shochu B, or 36 per cent, in the case of shochu A. In practice, as mentioned above, both types of shochu typically have an alcoholic strength of 20 per cent to 35 per cent, with 25 per cent being the most common strength. The legal definition of the category of "spirits" does not provide for a maximum alcohol content but in practice, the average alcohol content of the liquors falling within this category is 40 per cent. For the Community, the above differences between shochu and each of the main types of "spirits" are clearly minor and do not prevent all of them from qualifying as like products. Similar differences (if not more significant ones) exist also among the various types of western-style distilled spirits, despite of which all of them have been included into a single category of "spirits" and taxed at a uniform rate. The Community submitted that the differences in alcoholic strength are moreover rendered irrelevant by the drinking habits of the Japanese consumers: both shochu and the liquors falling within the category of "spirits" tend to be drunk heavily diluted with water or other non-alcoholic beverages and end up at roughly the same strength.

4.52 In support of its allegation, that shochu and spirits are like products, the Community also argued that shochu and spirits have essentially the same consumers' uses and customs classification. Shochu and "spirits" have essentially the same end-uses. All of them are drunk "straight", "on the rocks" or, more frequently, diluted with water or other non-alcoholic beverages. Moreover, both shochu and "spirits" are widely drunk by all categories of consumers, regardless of age, sex or occupation. In support of its argument, the Community submitted two market studies. ⁵⁰ Moreover, shochu and all "spirits" other than gin and rum fall within the same HS sub-heading (HS 2208.90). This confirms that the differences between shochu and the category of "spirits" may be less significant than the differences among the various types of liquors falling within the category of "spirits".

4.53 The Community then submitted that a striking illustration of the "likeness" between shochu and "spirits" and, at the same time, of the arbitrariness and artificiality which are inherent to the criteria on the basis of which the Liquor Tax Law attempts to distinguish them, has been recently provided by the change in the tax categorization of the brand "Juhyo". This brand had been traditionally sold by the local manufacturer Suntory as vodka and accounted for almost half of the Japanese production of that liquor. However, as from June 1993, Suntory started to market the same product as "Juhyo shochu". All that was required in order to obtain this change in tax category was to discontinue the use of charcoal of white birch as a filtering material. ⁵¹ The Community argued that the change was made with the aim of escaping the higher taxes levied on "spirits" and was followed by an immediate and substantial reduction in the retail prices of "Juhyo". In support of its argument, the Community submitted an article from the Teiin Shkuryo Shinbun. The Community concluded by referring the Panel to the findings of the 1987 Panel Report where it was stated that "Japanese shochu (Group A) and vodka could be considered as like products in terms of Article III:2 because they were both white/clear spirits, made of similar raw materials, and their end-uses were virtually identical (either as straight schnaps type of drinks or in various mixtures)" ⁵² and that other types of spirits, in addition to shochu A and vodka, could also be like products. For the Community therefore, the liquors falling within the category "spirits" and the two sub-categories of shochu are, in light of all the criteria that have been identified above as relevant, "like products" within the meaning of the first sentence of Article III:2.

4.54 Japan argued that in its view the Community acknowledged that the differences in physical characteristics between whisky/brandy and shochu are sufficiently large to prevent the two categories from qualifying as like products. It also noted that the Community's claim of likeness applies only between the category of "spirits" and shochu A and B. Japan argued that, in examining the "likeness" of "spirits" and shochu, the Community looked at the following four criteria: (i) the product's properties, nature and quality, (ii) its end-uses, (iii) consumers' tastes and habits, and (iv) the HS classification. Japan argued that if the Community's four criteria were correctly applied to the facts, "spirits" and shochu A and B would not be "like products", because:

as to (i) the product's properties, nature and quality:

and as to iv) classification in the HS:

TO CONTINUE WITH JAPAN - TAXES ON ALCOHOLIC BEVERAGES

³³ 1992 Malt Beverages panel report, op., cit., para. 5.25.

³⁴ Idem., para. 5.26.

³⁵ Idem., para. 5.74

³⁶ 1987 Panel Report, para. 3.2.

³⁷ Idem, para. 5.9 b).

³⁸ US Auto Taxes panel report, op. cit., para. 5.5.

³⁹ Idem, para. 5.6.

⁴⁰ Idem. para. 5.10.

⁴¹ Idem, para. 5.14.

⁴² 1992 Malt Beverages panel report, op. cit. 5, para. 5.25.

⁴³ US Auto Taxes panel report, op.cit., para. 5.7.

⁴⁴ Idem, para. 5.10

⁴⁵ A city might forbid destruction of historic buildings and require owners of such buildings to use only certain categories of original materials in their restoration. In many cases, those materials may only be found in the domestic market and other, competitive products may be excluded for use on the ground that they are not authentic. There is no exception in GATT for the preservation of historic buildings. The United States questioned whether such a measure would run afoul of Article III merely because the products in question are substitutable for other purposes and because the measure may tend to favour domestic products over imported ones.

A country might prohibit the sale of objects, books, or representations disrespectful to its monarchy. This prohibition by nature disproportionately affects imports. The United States noted that there is no exception in Article XX for lèse majesté. A European country might ban the sale of Pre-Columbian art to cooperate in international efforts to prevent pillaging of archaeological sites. The exception in Article XX(f) only relates to "national" (i.e. one�s own) treasures. The United States asked whether, since the art in question is all imported, this measure should be deemed to be a violation of Article III.

Many countries provide exemptions from their food labelling, grading and inspection laws for farm produce sold directly by the farmer, or products produced for private use (mushrooms or game harvested for private consumption), or food grown by aboriginal groups. The United States noted that these exemptions may favour domestic production, but have no protectionist intent.

⁴⁶ According to the Community, the generally accepted view is that an imported product and a domestic product manufactured in accordance with different non-product related PPMs (processes and production methods) are still "like" and cannot therefore be treated differently under internal regulations. This interpretation is supported by the two unadopted panel reports on "US - Restrictions on Imports of Tuna" (see Tuna I, panel report dated 3 September 1991, not adopted but published in BISD 39S/155, and Tuna II, panel report dated 10 June 1994, DS29/R, not adopted). Under the aim-and-effect test one could argue that tuna harvested with a high rate of incidental dolphin killing is not like to other tuna because the distinction does not have a protectionist purpose.

⁴⁷ Under the traditional interpretation, this would be contrary to Article III because the more taxed products are "like" products manufactured by workers who are paid above the minimum wage level and do not work on Sundays. See panel report on "Belgium - Family Allowances", adopted on 7 November 1952, BISD 1S/59.

⁴⁸ 1987 Panel Report, para. 5.9(a).

⁴⁹ See in para. 5.74.

⁵⁰ A market survey conducted by the Japan Market Research Bureau in December 1994 and a market survey conducted by an ependent research company in May 1994.

⁵¹ In addition, barley and rice were added as raw materials in order to alter the taste of the product. Nevertheless, this change was not required by the Liquor Tax Law in order to make "Juhyo" qualify as shochu.

⁵² 1987 Panel Report, para. 5.7.