(c)Additional arguments by th e European Communities made at the first meeting of the Panel with the parties

4.382 At the first meeting of the panel with the parties, the European Communities further advanced their arguments under Article 4.2(a) as follows:

(i) Industry definition

4.383 Korean dairy farmers are characterized by having small farms (average 25 cattle per farm), high costs and low productivity and being subject to a high level of government intervention. In recent years there has been a decline in the number of dairy farms, but an increase in the number of cattle and in milk production, both absolutely and per head. This shows that the Korean dairy farmers are undergoing a process of consolidation, similar to that of many other dairy producers in the most advanced economies, whereby the smallest, least efficient farms are being absorbed and investment for improvements is being targeted on the remaining larger, more efficient farms.

4.384 This process of rationalization and consolidation is encouraged by the Korean Government. Financial stimulus is given by the Dairy Cow Competitiveness Enhancement Programme introduced in 1994, under which the Korean Government gives loans to dairy farmers to improve their facilities. Korea has declined to give details of the level of expenditure committed to this programme. However, the success of governmental intervention can be seen by the facts: between 1993 and 1996 the number of dairy farms decreased by 22 per cent, but the number of dairy cattle increased by 1.6 per cent and milk production by 9.5 per cent.

4.385 Despite the fact that the Korean dairy farmers are still rather inefficient by international standards, Korean milk production has increased almost continuously for the past 20 years and rose by 17 per cent in the most recent five-year period for which figures are available (1991-96). Production is continuing to rise and it is anticipated that it will increase by a further 2-3 per cent in 1998.

4.386 These production increases are rendered possible by the system operated by the Korean Government, under which producers are guaranteed a very high price for their raw milk, for unlimited quantities and irrespective of domestic demand. Like the production, this guaranteed price has also regularly increased over the course of the last 20 years, so that Korean milk producer prices at the time of the safeguard investigation were among the highest in the world, second only to Japan during the period of investigation. Korea has admitted that the price of raw milk "is maintained at a stable level fixed by the government" and that the price of raw milk was also increased twice during the investigation reference period. ¹⁶⁷ Although Korea terms these prices as "suggested", they are identical to the ones that it submitted to the OECD as domestic prices within the framework of OECD Members' reporting obligations.

(ii) Failure to examine correctly all relevant factors of an objective and quantifiable nature having a bearing on the situation of the domestic industry

4.387 The European Communities consider that the evaluation of injury factors conducted by Korea is incomplete in the following respects:

• for the raw milk industry, Korea failed to evaluate the profits and losses of the raw milk industry
• with regard to the milk powder industry, Korea did not examine productivity, and employment
• there is in reality no examination at all of capacity utilization.

4.388 In addition, the evaluation of many other factors is seriously flawed. These are:

• the rate and amount of the increase in imports of the product concerned in absolute and relative terms (inclusion of excluded products),
• changes in the level of sales (incorrect calculation),
• profits and losses (failure to exclude effects of other activities of the co-operatives)
• sales prices (failure to take account of the fact that 1996 below cost sales were a "temporary phenomenon")
• inventory (no reason why inventory levels indicated should be a cause for concern). This is a matter which the European Communities will clarify below.

4.389 Therefore the European Communities conclude that Korea violated Article 4.2(a) of the Agreement on Safeguards by making an incomplete and flawed evaluation of the injury factors.

(a) Profitability

4.390 The European Communities noted that Korea supplied for the first time some data on profitability of dairy farmers in its First Written Submission. The European Communities considered that: first, Korea's late submission of information demonstrates that those data could indeed have been gathered and supplied, contrary to what Korea had claimed when the European Communities made their objections during the consultations, and second, the information which is now supplied confirms the EC case.

4.391 The European Communities asserted, based on Korea's data, that in 1994, which witnessed the imports' sharpest increase, farmers' profitability was also at its peak. The absence of correlation between increase in imports and profitability further demonstrates the absence of causal link between profitability and the increase in imports. In reality the profitability of Korean dairy farmers is determined by government decisions on the "reference price".Korea's table on price and production cost of raw milk shows that the decrease in profitability is due to an increase in production costs which of course has nothing to do with imports of SMPP.

(b) Inventory

4.392 Apart from the size of the stocks, the other important point is the timing of the increase. The European Communities presented the following graph:

4.393 The European Communities argued this graph shows very clearly that the increase in stocks occurred in November 1995 immediately following the serious decrease in consumption caused by the "pus milk" scandal.Moreover, the graph shows clearly that the increase in stocks coincided with steadily increasing milk production. In the light of the above, the European Communities reiterate their conclusion that the inventory level reported by Korea could not be considered "excessive", and that its origin is to be found in a cause which is very different from imports of SMPP.

(c) Employment

4.394 The figures given by Korea in connection with employment in fact only relate to the numbers of dairy farm households - which the European Communities take to mean farms.This of course is not a measure of employment, especially in a period where farms are consolidating and increasing in size (a development encouraged by Korean government policy).

4.395 The European Communities reiterated that employment is an injury factor expressly listed in Article 4.2 Agreement on Safeguards and Korea has completely failed to investigate it.

(d) Debt

4.396 The European Communities note with equal interest that in order to emphasize the problems of one part of its industry - farmers - which it omitted to consider in its determination, Korea is now able to supply data on their debt, and even comparing the household debt increase rate of dairy farmers with that of other farmers. The comparability of the debt level of dairy farmers and the other farmers is expressed in the graph below submitted by the European Communities:

This graph, drawn from Korea's own data, shows that although there was an increase of indebtedness in 1994 (a year of high profits for the Korean dairy industry as we have just seen), the indebtedness of the dairy industry is following exactly the same trend as Korean farming generally.

4.397 The European Communities too recalled that an incentive to accumulate debt can also stem from the favourable credit conditions that Korea admits its dairy industry can enjoy as a result of the Dairy Cow Competitiveness Enhancement Programme.

4.398 In the EC view the figures in the table on the percentage of debt incurred by cooperatives from their milk powder operations submitted show a declining trend in indebtedness throughout the investigation period of 1993 to 1996 which is a healthy trend. Also, the evolution of profits and losses shows no correlation to indebtedness.The figures do not correspond for example, the high profits in 1992 were followed by an increase of debt in 1993. But more fundamentally, Korea is comparing apples and pears by calculating a ratio of profits and losses from milk powder business by annual (that is presumably accumulated) debt corresponding to all business sectors of the co-operatives.The information is simply misleading and in no measure supports Korea's findings.

(e) Research and Development

4.399 In the EC view Korea's First Written Submission contains a new and remarkable argument - that the ability of the domestic industry to invest in research and development was being impaired. There is no basis for this in the Notification and indeed no figures for such investment are given.The European Communities submit that this new attempt of justification of the finding of serious injury must be disregarded.

(f) Loss of Market Share

4.400 It is always possible to make figures appear more impressive by reducing the denominator and this is what in the EC view what Korea does in its First Written Submission by expressing imports of SMPP as a percentage of the milk powder market. The domestic industry definition covered all milk production and therefore the appropriate figures are for this market.The total market share of domestic raw milk and milk powder declined some 5.7 percentage points from 91.1 per cent to 85.4 per cent during the investigation period. The European Communities do not see how this can be considered indicative of serious injury.

(g) Consumption

4.401 In the EC view, Korea makes an admission in its First Written Submission when it stresses the importance of the switch in Korea from the consumption of "white milk" to the consumption of flavoured and fermented milk and that the latter is directly at the expense of the former. Korea suggests that since flavoured and fermented milk can be more easily manufactured using imported SMPP, this demonstrates serious injury.This is not the case.The trend identified by Korea demonstrates that the decrease in domestic milk production was at least partially caused by a change in consumer preferences in Korea.This is an additional factor contributing to the situation of the domestic industry which Korea failed to take into consideration under the second sentence of Article 4.2(b).This is an additional violation.

(h) Capacity utilization

4.402 Korea asserts that evidence of its investigation into this factor can be found in the KTC's Interim Report. This might be true, but it simply overlooks the point that the factors leading to the imposition of a safeguard measure should be at the basis of the final decision, which is at issue in this procedure on "Definitive Safeguard Measures on Imports of Certain Dairy Products". In the absence of even a reference to the interim report on this aspect in the final measure, the European Communities fail to see how it could have been understood that the preliminary determination would not be, precisely a preliminary one but a definitive one

(d) Additional arguments by Korea made at the first meeting of the Panel with the parties

4.403 At the first meeting of the panel with the parties, Korea further advanced its arguments under Article 4.2(a) as follows:

4.404 As to the more general substantive points raised by an examination of serious injury and causation, Korea maintains:

4.405 WTO Members should be allowed to set more onerous standards than the Agreement on Safeguards for the imposition of safeguard measures (as indeed the European Communities do).Korea only has to comply with Agreement on Safeguards.In its view, the consideration of this case, and the notification and consultation procedures were in full conformity with that Agreement.

4.406 Looking at the injury criteria it considered as relevant, objective and quantifiable, the Korean investigation concluded that the imports of cheap SMPP had increased, that serious injury had been suffered by the domestic industry, and that the serious injury was caused by the increased imports. The Korean investigation took into account a number of factors demonstrating a causal link between the increased imports and serious injury, and discounted factors that had an insignificant or limited effect.

4.407 More specifically, there was an increase in imports both in absolute and relative terms.In 1993, the amount of SMPP imported was 3,217 tonnes.The amount increased to 15,561 tonnes in 1994, 28,007 tonnes in 1995 and 16,320 during the first half of 1996.Based on the above data, Korea found that imports had increased during the period of investigation.

4.408 There was also a significant increase in imports of SMPP relative to domestic production of raw milk.While the annual growth rate of raw milk production was 3.2 per cent in 1993, 4.2 per cent in 1995, and 4.4 per cent in the first half of 1996, the annual growth rate of SMPP was 384 per cent in 1994, 80 per cent in 1995, and 16.9 per cent in the first half of 1996.

4.409 Korea also undertook a profit and loss analysis of the Korean industry, which also showed serious injury.Both the raw milk and milk powder sectors of the Korean industry incurred heavy losses during the investigation period.As to the raw milk sector, the European Communities claimed in its First Submission that the dairy farmers of Korea are guaranteed a "very high price" by the Government. However, the reference price was only suggested and not guaranteed, and did not even cover the cost of production.For example, in 1996, the production price per 100 kg was 899 Won above the suggested reference price. The milk powder sector also showed a great loss.The slight profit of 196 Won per kg in 1993 turned into a heavy loss of 1,184 in 1996. There was also a significant rise in unemployment in the domestic industry due to the imports of cheap SMPP.

To continue with Rebuttal arguments made by the European Communities

¹⁶⁷ See, WTO Doc. G/SG/N/10/KOR/1/Suppl.1, 1 April 1997, p. 10, paragraph IV.3.7 (Exhibit EC-10).