(iii) Article 1.1(b) - "Benefit"

4.368 Canada argued that an analysis of whether the sale of milk through negotiated prices conferred a "benefit" had to begin with an understanding of what was meant by that word. The word "benefit" had not been defined in the SCM Agreement or in any of the other covered agreements. In the absence of a definition, recourse had to be made to the principles of treaty interpretation in customary international law, as expressed in Articles 31 and 32 of the Vienna Convention. Following this approach, Canada submitted that the word "benefit" as it was found in Article 1.1(b) of the SCM Agreement, could only be read as meaning a competitive advantage in trade. This conclusion flowed naturally from the ordinary meaning of "benefit", the context in which it was found and the object and purpose of the SCM Agreement read as a whole.

4.369 Canada argued that to establish ordinary meaning, some guidance could be obtained from authoritative dictionaries. In this respect, the New Shorter Oxford English Dictionary referred to "an advantage" or a "pecuniary profit". ²⁵⁷ Furthermore, Canada noted that WTO agreements were authentic in English, French and Spanish. ²⁵⁸ Under Article 33 of the Vienna Convention, the terms of each authentic text were presumed to be the same. If there was a difference of meaning, the meaning which "best reconciles the texts, having regard to the object and purpose of the treaty, shall be adopted." ²⁵⁹ Canada noted that in the French language text of the SCM Agreement, the word used for "benefit" was "avantage". Canada argued that this lent support to reading "benefit" in the English text as carrying the meaning of "advantage".

4.370 Canada argued that the SCM Agreement was about the maintenance of fair trade between producers. It was intended to discipline government contributions that resulted in a competitive advantage to certain producers. In this context, and in the light of the object and purpose of the provision, the expression "benefit" could only be interpreted to mean "competitive advantage". A broad reading of the word "benefit" would make governments liable for virtually any financial activity they undertook, regardless of whether or not that activity had a trade-distorting effect. In a commercial context, understanding "benefit" to mean "an advantage", meant that the transaction in question provided something to the recipient that would not be available in the ordinary course of business (for example, goods purchased at above market price or inputs provided at less than commercially prevalent prices). In either case, the action by government had provided something to the recipient over and above what was available in the market. Moreover, Canada argued that if "benefit" was to be read as carrying a broader meaning, this would have the effect of rendering the term meaningless and redundant since nearly any financial contribution could be said to provide a benefit in some aspect of that wider sense. This would be contrary to the basic rules of treaty interpretation. ²⁶⁰ Canada contended that the above confirmed that the term "benefit", as it was used in the SCM Agreement, was best understood to mean an "advantage". Canada contended that no "benefit" in the sense of some advantage outside of normal commercial returns can be found in the sale of milk in Canada at differing prices for domestic and export purposes.

4.371 Canada argued that the Complainants' submissions were premised on the assumption that there was only one market for dairy products in Canada. They argued that there were at least two distinct markets for the sale of dairy products. One market was the sale of dairy products for domestic consumption and the other was the sale of dairy products for export. In fact, there were sub-markets within each of these general markets. To find a "benefit", it had to be demonstrated that the ability of processors to obtain dairy products surplus to domestic requirements, on terms and conditions negotiated at arms length between producers (acting collectively) and processors, at the price that such products commanded in the international marketplace, conferred any assistance or advantage to the buyer. Canada failed to see how neutrality with respect to the purchase and sale of products at the price that was normal and customary in a particular market, could be said to be a "benefit".

4.372 Canada submitted that the relevant market for any product was the market in which it would compete. Since Class 5(d) and (e) milk could not, by definition, be sold in the domestic consumption market, the relevant market in which the price of such milk had to be examined was the export market as this was the only market in which the product can be sold. There could be no "benefit" where products were sold into a market at prices that the market would bear. Thus, Canada argued that the sales of milk in Canada for export use did not in themselves constitute a "benefit" for the purchaser over and above the normal commercial conditions that applied in such a market. Accordingly, there could be no "benefit" as that term had to be interpreted under Article 1 of the SCM Agreement.

4.373 Canada argued that even if both a governmental "financial contribution" and a "benefit" were found, the word "thereby" in Article 1.1(b) required that there was no "subsidy" until a causal link was established between the two elements. In other words, it was necessary to show that the "benefit" was conferred from the "financial contribution".

4.374 New Zealand noted that Canada's denial that any "benefit" was conferred by the operation of the Special Milk Classes Scheme was based largely on its view that Special Classes 5(d) and (e) milk were sold on the basis of arm's length transactions engaged in by producers or their agents and not by governments. There could be no "benefit", Canada asserted, because the exporter was simply obtaining milk at the only price at which it was available. Milk was exported, Canada claimed, only when there was no further domestic demand, thus there was no alternative domestic market to which the price can be compared. New Zealand contended that such an explanation assumed that there were two markets, domestic and export, that operate without governmental restraint. However the domestic market was only "satisfied", to use Canada's term, because the government said it was. Even when the market was "satisfied" it would still be possible to release more product into the market. Left to their own devices, producers would do just that. They would make the rational commercial decision to sell their product on the domestic market. While this would ultimately bring prices down, equally, greater quantities would be sold. Thus, the decision to provide milk at a lower price for the "export market" was not the result of the normal operation of the marketplace. Offering milk to exporters at a price lower than the domestic price was a conscious decision taken by government under the Special Milk Classes Scheme. It was a decision that conferred a benefit because in the absence of the Special Milk Classes Scheme exporters would have to pay domestic prices to access milk and would then clearly sell any products on world markets at a loss. The recipient was indeed, even in the terms that Canada used, being provided with something that "would not be available in the ordinary course of business" (paragraph 4.370) Thus the requirement that a benefit be conferred in order to meet the definition of "subsidy" in Article 1 of the SCM Agreement was met.

4.375 New Zealand maintained that Canada's contention that the Special Milk Classes Scheme did not provide a subsidy within the meaning of Article 1 of the SCM Agreement could not, therefore, be supported.

4.376 The United States argued that for purposes of Article 1 of the SCM Agreement, the Special Classes provided a benefit to the dairy product export manufacturers. While the United States did not necessarily accept Canada's construction of the term "benefit", the application of the term even as construed by Canada resulted in the conclusion that export processors received a benefit in the form of lower priced milk. Since those processors had no other source for such low priced milk ²⁶¹ and they could not sell their dairy products into world markets if they were compelled to pay the much higher domestic prices in Canada for milk ²⁶² , the processors clearly received a competitive advantage that they would otherwise lack.

4.377 Canada's argument that there was no benefit, moreover, rested solely on its theory that milk producers sold for export at approximations of world price levels free of all government compulsion. This view entirely ignored the fact that milk subject to surplus removal had to be sold for export at the lower prices fixed by the CDC or not be sold at all. The United States claimed that data (set out in US Exhibit 57) clearly indicated that over-quota component prices set by the CDC often undercut world prices for butter and SMP. Given that milk was a highly perishable product, and the initiation of surplus removal meant that no other processors in a province had a need for the milk, the Special Class price under surplus removal constituted what was essentially a take it or leave it price to the milk producer. Mr. Doyle, from the Dairy Farmers of Canada, stated this concept most concisely:

4.378 The United States submitted that a recent decision by Revenue Canada in a Canadian countervailing duty investigation involving refined sugar from the European Union was relevant to this issue. One of the subsidies that Revenue Canada examined was the payment of refunds to sugar processors selling their products onto the world market. Revenue Canada determined that those refunds constituted a benefit because the payments covered "the price difference between the EU price level and the world price level, thereby allowing the exporters to be competitive in export markets." Canada's Special Milk Classes Scheme also resulted in a price difference with lower priced milk available only to exporters to allow them to be competitive in world markets. Revenue Canada's conclusion that such price differentials constitute a benefit to exports compelled the conclusion that the Special Classes also conferred a benefit to Canadian processors. ²⁶⁴

4.379 Canada refuted the US contention that processors received a benefit in the form of lower priced milk. Canada argued that there was no "benefit" conferred where products were sold into a market at prices that reflected the economic realities of that market. Likewise, the Canada refuted the US contention that what Canada called the market price was a "take it or leave it" price negotiated by the CDC. This was factually inaccurate. The CDC negotiated as agent for the producers and, as the principals, the producers had the right to approve or reject the transaction. The negotiated price was a price at which a willing buyer was prepared to purchase from a willing seller. It was difficult to see how such commercially-based sales conferred a benefit.

4.380 Canada contested the methodology in which the United States had constructed Canadian dairy prices as set out in Exhibit 57 (referred to in paragraph 4.377). The United States had converted actual over-quota returns for the 1995/96 to 1997/98 dairy years to US dollars, and compared them to prices reported for New Zealand and Australia. The United States then selected milk component prices under Class 5(e) from different individual provinces and converted these to US dollars after which conversion factors were assigned to each component to calculate the alleged value of milk reflected by the component prices. Canada argued that this procedure was flawed. It was almost impossible to create an accurate per hectolitre milk price from milk component prices for use in cheese and other products. This was because the protein and other solids prices for cheese were very different than for other products. For cheese making, protein was more highly valued, while the other solids were lower-priced. In making skim milk powder, protein and other solids had the same value. Moreover, different products contained different proportions of the various components. Therefore, from month to month and from province to province, as the composition of production changed, a crude conversion from component prices to a hectolitre price using fixed coefficients yielded an incorrect number. This result was clearly displayed in the "Calculated Milk Price" line (first page of Exhibit 57) where the United States reported that its estimate of farm level over-quota returns based on the components conversion methodology were vastly different than the actual over-quota returns for each of the dairy years studied. In other words, the data manipulations had generated incorrect answers.

4.381 Furthermore, in the following panel of the table in Exhibit 57, the United States took estimated prices for butter and skim milk powder in Northern European ports, which it used as a proxy for world dairy prices, and converted these to an estimated world price for milk. Unfortunately, it used inappropriate conversion factors. Butter and skim milk powder were joint products produced in more or less fixed proportions from standard whole milk. Canadian dairy experts considered these proportions to be 4.365 kg. of butter and 8.51 kg. of skim milk powder per hectolitre of milk. The United States had assumed 4.875 kg. of butter and 8.51 kg. of skim milk powder, thus overstating the value of a hectolitre of milk, and biasing its world price estimate upward. In the last line of the table in Exhibit 57, the United States attempted a comparison between prices of raw milk to processors on one hand with retail-packaged milk on the other. This was a basic analytical error (paragraph 4.439).

4.382 Canada further argued that the graph in Exhibit 57 suffered from similar methodological errors as the table. First, the component prices achieved in sales under Class 5(e) as reported by "various [unidentified] provincial newsletters" reflected the values of these components in a broad range of dairy products, for which different components had different values. A simplistic conversion from reported component prices to butter and skim milk powder prices produced inaccurate results. Second, the United States appeared to be comparing component values of raw milk as paid for by processors at their plants, with a survey of prices for finished butter transported to Northern European ports. Any analysis that failed to make allowances for processor margins, marketing costs and transportation before comparing these "constructed" plant-gate prices with finished goods prices obviously lacked credibility.

4.383 Canada noted that New Zealand argued that there was a benefit because the notion of a domestic market and an export market was an artificial construct designed by Canada. Canada argued that far from being an artificial construct, the differences between Canadian domestic and international dairy markets were a basic business reality to which producers and processors had to respond. Neither the Agreement on Agriculture nor the SCM Agreement required Members to eliminate all domestic and international pricing differences. Canadian dairy producers had simply adjusted themselves to the objective fact that these differences existed.

(c) Paragraph (d) of the Illustrative List of Export Subsidies

(i) Outline

4.384 New Zealand noted the Illustrative List in Annex I to the SCM Agreement made clear that the provision of inputs solely for use in exports on more favourable terms than for domestic production constituted an export subsidy. There was no doubt that what occurred under Classes 5(d) and (e) of the Special Milk Classes Scheme would constitute a subsidy within the meaning of Paragraph (d) of the Illustrative List. Under a government-mandated scheme, lower-priced milk was being made available to processors contingent upon export. The terms and conditions under which such milk was made available were more favourable than those commercially available on world markets since the existence of tariff restrictions on the importation of milk into Canada meant that the choice between domestic and imported products was not unrestricted within the meaning of the footnote to Paragraph (d). New Zealand claimed that the Special Milk Classes Scheme met the conditions set out in Paragraph (d) of the Illustrative List of Export Subsidies in Annex I of the SCM Agreement which made it clear that such differential pricing schemes fell within its scope.

4.385 The United States argued that Paragraph (d) of Annex 1 of the SCM Agreement was particularly germane to consideration of whether Canada's Special Milk Classes Scheme constituted an export subsidy as this paragraph specifically addressed the situation where a government provided inputs to exporters at a price which was below the price at which the same materials were made available to manufacturers in the domestic market. This, after all, was precisely the function and objective of the Special Milk Classes Scheme. The conclusion that a differential pricing system for products destined for export fell within the concept of an export subsidy under Article 10 of the Agreement on Agriculture, as well, was, thus, reinforced by reference to the Illustrative List of Export Subsidies in the SCM Agreement. The Illustrative List made clear that the provisions of inputs solely for use in exports on more favorable terms than for domestic production constituted an export subsidy.

4.386 The United States argued that there were essentially four conditions that had to be fulfilled to satisfy Paragraph (d): (1) the provision of goods had to be by governments or mandated by them, either directly or indirectly; (2) the goods had to be used in the production of exported goods; (3) the goods had to provided on terms or conditions more favorable than for provision of like or competitive products in the production of goods for domestic consumption; and (4) the goods had to be made available on terms or conditions more favorable than those commercially available on world markets to the exporters. The United States argued that Canada's Special Milk Classes Scheme satisfied each of the requisite factors and, therefore, was an export subsidy within the meaning of the SCM Agreement. ²⁶⁵

4.387 In conclusion, the United States argued that because the Special Classes had satisfied each of the criteria identified in Paragraph (d) of the Illustrative List, the Special Classes were deemed to be an export subsidy for purposes of the SCM Agreement. And as the SCM Agreement was part of the context of the subsidy provisions of the Agreement on Agriculture, the fact that the Special Classes comprised a subsidy under the Illustrative List argued for their treatment as a subsidy under the Agreement on Agriculture as well.

4.388 Canada argued that the facts demonstrated that the sale of milk in Canada for export use differed significantly from the practice described in Paragraph (d). This significant difference between the practices at issue and the practices explicitly described as export subsidy practices raised a clear implication that the Canadian practices did not fall within the conception of "subsidies" or "export subsidies" in the SCM Agreement or the Agreement on Agriculture. In Canada's view there were three elements that had to be met if a practice or measure relating to goods was to fall within the description provided in Paragraph (d):

4.389 Canada claimed that none of the three criteria applied to sales of milk under Special Classes 5(d) and (e) and therefore such sales were not deemed to be an "export subsidy" under this provision. Moreover, given the careful delineation of this type of "export subsidy", it was highly suggestive that a reverse proposition was true: the practices at issue were not to be considered to be "export subsidies" for the SCM Agreement, or in turn, for the Agreement on Agriculture. It was Canada's position that the practices in question did not fall within Paragraph (d) of the illustrative List. This raised a strong presumption that the practices in question were not "export subsidies" for the purposes of the SCM Agreement and, in context, for the Agreement on Agriculture.

To continue with Government mandated ...

²⁵⁷ NSOED, Canada, Exhibit 26.

²⁵⁸ Marrakesh Agreement Establishing the World Trade Organisation, signature provisions.

²⁵⁹ Vienna Convention, Article 33.

²⁶⁰ Canada noted that in particular, in the Appellate Body Report on US - Reformulated Gasoline, op. cit., p.23, the Appellate Body stated: "One of the corollaries of the 'general rules of interpretation' in the Vienna Convention is that interpretation must give meaning and effect to all the terms of a treaty. An interpreter is not free to adopt a reading that would result in reducing whole clauses or paragraphs of a treaty to redundancy or inutility."

²⁶¹ The United States noted that Canada reported that the Import for Re-Export Program did not provide imported milk to its processors except in a form of more limited utility, e.g., as milk powder (the Import for Re-Export Program is further addressed in the following Section of this report).

²⁶² United States, Exhibit 25.

²⁶³ Excerpt from Mr. Doyle's testimony before the Canadian International Trade Tribunal in its examination of the butter oil blend issue.

²⁶⁴ Final Determination of Subsidizing of Refined Sugar from the European Community, Statement of Reasons, Revenue Canada. See United States, Exhibit 55.

²⁶⁵ The United States noted that it had already established that the Special Milk Classes Scheme was an export subsidy because it satisfied the criteria alternatively of Article 9.1 or 10 of the Agreement on Agriculture.