CANADA - MEASURES AFFECTING THE EXPORT
OF CIVILIAN AIRCRAFT



Recourse by Brazil to Article 21.5 of the DSU




Report of the Panel

(Continuation)

ATTACHMENT

Item (k): Interest Rates Provisions of the OECD Arrangement
 

This document sets out Canada's view of which provisions pertinent to regional aircraft financing in the current text of the OECD Arrangement would, for purposes of this dispute constitute "interest rates provisions" within the meaning of item (k) of Annex I of the SCM Agreement. The provisions described below affect what the interest rate and the amount of interest payable will be in a given transaction. Within limits, variations of certain of these provisions are permitted under the terms of the Arrangement. Canada notes that provisions in the Arrangement that are pertinent to sectors other than regional aircraft have not been listed. This list is thus without prejudice to Canada's position as far as other sectors are concerned. While Canada has not listed definitional provisions of the Arrangement, those provisions apply to the provisions listed below.

Article 2: Scope of Application

This article restricts the scope of the Arrangement to officially supported export credits with repayment terms of two years or more, and to official support in the form of tied aid.⁹

Article 3: Special Sectoral Applications and Exclusions

This article sets out the applicability of special guidelines to certain specific sectors. The guidelines applicable to the aircraft sector provide that in cases where provisions in the Sector Understanding on Export Credits for Civil Aircraft (Annex III) correspond with provisions in the Arrangement, the provisions of the Sector Understanding prevail.

The relevant provisions in the Sector Understanding are Articles 21, 22, 23, 24 and 25 of Annex III, Part 2, which covers new aircraft, and Articles 28, 29, 30 and 31 of Annex III, Part 3, which covers used aircraft, spare engines, spare parts, maintenance and service contracts.

Article 7: Cash Payments

This article requires providers of official support to require purchasers of goods and services to make cash payments of a minimum of 15 per cent of the export contract value of the goods or services, at or before the starting-point of a credit (defined in Article 9 of the Arrangement).

Article 9: Starting-point of Credit

This article requires that the repayment term begin by the actual date of delivery. However, depending on the complexity of the underlying export contract, other dates may be applicable.

Article 10: Maximum Repayment Term

This article sets out the maximum term for repayment of the export credit, which can be either five years (with a possible extension to eight and a half), or ten years, depending on whether the recipient country is classified as a Category I or Category II country. (The category of country is determined by world Bank data based on GNP per capita).

Article 13: Repayment of Principal

This article requires that the principal sum of the export credit is normally to be repaid in equal, and at least semi-annual instalments. It also permits equal, blended payments of principal and interest in the case of leases. Within limits, variations are allowed.

Article 14: Payment of Interest

This article requires payments of interest to be made in at least semi-annual instalments during the repayment term. Within limits, variations are allowed.

Article 15: Minimum Interest Rates

This article requires providers of official financing support to apply minimum interest rates, or the relevant Commercial Interest Reference Rates (CIRRs), and sets out the principles by which CIRRs are established. These include the principle that CIRRs should closely correspond to the rate for first-class domestic borrowers and to the rate available to first-class foreign borrowers.

Article 16: Construction of CIRRs

This article requires CIRRs to be set at a fixed margin of 100 basis points above their respective base rates. For most OECD Participants, the base rates are the yields of government bonds with terms that roughly correspond to the average life of the loan.

Article 17: Application of CIRRs

This article provides that CIRRs can be held for 120 days at an additional cost of 20 basis points. When official financing support is provided for floating rate loans (rather than on a CIRR basis), the Participants must not grant the borrower the option of choosing the lower of CIRR or the short-term market rate throughout the life of the loan.

Article 19: Official Support for Cosmetic Interest Rates

This article forbids the offering of artificially reduced interest rates, which give the borrower the illusion of obtaining more favourable financing terms than are envisaged under the Arrangement.

Article 21(a): "Premium shall be risk-based."

Paragraph (a) of Article 21 requires that premiums be risk-based. This is understood to mean that premiums must "not [be] inadequate to cover long-term operating costs and losses" (as provided in Article 22(a)).

Article 26: Validity Period for Export Credits

This article imposes a limit of six months on the length of time offers can remain outstanding for acceptance by the buyer/borrower.

Article 29: Matching

This article permits the offering of terms and conditions that are outside of the Arrangement's rules, but only if such terms and conditions are matching another government's offer with terms and conditions that are outside of the Arrangement's rules.

ANNEX 2-4

ANSWERS TO QUESTIONS POSED TO CANADA

BY THE PANEL AND BY BRAZIL

(14 February 2000)

Questions Posed by the Panel Concerning Canada Account

Q1. The Panel notes that the Policy Guidelines is worded in the negative, i.e., that a Canada Account financing transaction or class of financing transactions that does not comply with the OECD Arrangement would comply with the OECD Arrangement would not be considered to be in the national interest. This wording suggests that there may be transactions or classes of transactions that are outside the scope of, and therefore not subject to, the Arrangement. As a matter of logic, any such transactions could not "not comply with" the Arrangement, and therefore would neither be subject to, nor contrary to, the Guideline. Could Canada please explain why the Guideline was not worded in the affirmative, i.e. , that only transactions that do comply with the Arrangement would be considered to be in the national interest? Could Canada please indicate whether all Canada Account transactions in the regional aircraft sector will be subject to the Arrangement and will comply therewith. Question 1:

Response

1. Under subsection 23(1) of Canada's Export Development Act, a prerequisite to authorization of a financing transaction under the Canada Account is a determination by the Minister for International Trade that the transaction is in the national interest. In making this determination, the Minister may reject a financing transaction for any number of reasons. The wording of the Policy Guideline in the negative is designed to preserve the Minister's ability to conclude that a proposed Canada Account financing transaction is not in the national interest based on other factors even though it complies with the OECD Arrangement. That is, if the Guideline were worded in the affirmative, as suggested in the Panel's query, it could be read to provide in effect that compliance with the OECD Arrangement means that a transaction, without more, would be in the national interest. This would leave no scope for other "national interest" considerations to be factored in by the responsible Minister.
    
2. As written, the Ministerial Guideline means that a transaction that does comply with the Arrangement may be in the "national interest", but that a transaction that does not comply with the OECD Arrangement will be considered, ipso facto, and without more, incapable of being in the "national interest". Compliance with the OECD Arrangement is therefore the one essential condition that must always be met in order for the transaction to be found to be in the national interest and authorized under the Canada Account.
    
3. All Canada Account transactions in the regional aircraft sector will be subject to and will comply with the OECD Arrangement.

Q2. Concerning Canada's apparent pledge, through the Policy Guideline, that "any future Canada Account financing transactions will be in conformity with the OECD Arrangement" (Canada's Oral Statement at para. 67.), the Panel notes, as acknowledged by Canada, that the "safe haven" in the second paragraph of item (k) of the Illustrative List makes specific reference to the "interest rate provisions" of the understanding in question, i.e., the OECD Arrangement. Canada has provided a paper ("Item (k): Interest Rates Provisions of the OECD Arrangement") and an oral statement concerning what it considers to be the interest rate provisions of the OECD Arrangement.

(a) Is it Canada's view that, in general, all of the substantive interest rate provisions that it has identified (i.e., all of the provisions other than matching) must both apply and be complied with for an export credit practice to be in conformity with the interest rate provisions of the OECD Arrangement? Please explain. If yes, does Canada consider that where this is not the case because of matching with non-complying terms and conditions, (i.e., where the transaction in question is matching the terms and conditions of a non-complying transaction), the transaction is question nevertheless is in conformity with the interest rate provisions of the Arrangement? Please explain.

Response

1. All of the substantive interest rates provisions must be complied with to the extent that they are applicable. Not all substantive interest rates provisions are always applicable. For instance, for export credits in some sectors other than regional aircraft, Article 25 ("Local Costs") would, in Canada's view, represent a substantive interest rates provision; however, we did not retain Article 25 on our list because we decided to limit the list to those provisions that are relevant for the purpose of this case because they are generally applicable to regional aircraft. The local cost issue does not arise in the regional aircraft sector.
    
2. Also, some of the substantive interest rates provisions that are relevant for regional aircraft might not apply depending on the circumstances of the underlying export credit transaction. For example, Article 10 ("Maximum Repayment Term") has substantive rules that are significantly amended by the specific provisions stipulated in Annex III. We still found it important to list Article 10 because the concept of a maximum repayment term as set out in the main Arrangement text is directly related to the levels of the CIRRs (see Article 16), and CIRRs are applicable to regional aircraft.
    
3. The right to match is an intrinsic part of the disciplines of the Arrangement. It operates as a right to match financing by those countries which might provide financing pursuant to terms and conditions other than the standard terms and conditions. It works as a rather effective deterrent to those countries that might be tempted to not comply. Recent experience has shown that the total number of matching notifications has declined to less than 10 per year (all Participants combined). Because matching effectively amends some or all of the other interest rates provisions in their applicability to a particular transaction, matching is itself a substantive interest rates provision. Therefore, a matching transaction undertaken in conformity with the Arrangement is also in conformity with the interest rates provisions of the Arrangement.

(b) If in answering (a) Canada indicates that it does not believe that all of the substantive provisions that it has identified must apply and be complied with for a transaction to be in conformity with the interest rate provisions of the Arrangement, does Canada consider that a transaction which complies with any one of these provisions or some subgroup of them is in conformity with the interest rate provisions of the Arrangement? Please explain, and identify the provision of provisions in questions. In particular, does Canada consider that export credits that are not CIRR-based (e.g., floating-rate financing), or export credit practices that do not involve an interest rate as such (e.g., export credit guarantees), can qualify for the sage haven of the second paragraph of Item(k)? Please provide a detailed explanation.

Response

1. All the substantive interest rates provisions that are applicable and therefore can be complied with under the circumstances of the underlying export credit transaction, must be complied with for the transaction to be in conformity with the interest rates provisions of the Arrangement. Canada does not hold the view that any country should be allowed to not comply with an interest rates provision that is applicable to a transaction and still claim conformity with the interest rates provisions of the Arrangement.
    
2. Floating rates are a good example for illustrating this point. Clearly, floating rate financing is envisaged by the Arrangement, and the face value of the floating interest rate can be below the face rate of the CIRR; otherwise, the restriction imposed in Article 17.b) on choosing between the "lower of either the CIRR (...) or the short-term market rate" would be pointless. A floating rate transaction like the one described in Article 17.b) is in full conformity with the interest rates provisions of the Arrangement (indeed, Article 17 is itself an interest rates provision); CIRR is constructed on a fixed rate basis (Article 16) and therefore not applicable in a pure floating rate scenario. It is also clear from the plain wording of the Article 17.b) that the minimum floating interest rate is "the short-term market rate"; this is generally understood to refer to international market benchmarks such as LIBOR.
    
3. Canada wishes to clarify that export credit guarantees do involve an interest rate in respect of the underlying loans that are being guaranteed. A financial institution which receives an insurance policy or an unconditional guarantee (in either case, with or without interest rate support by government) from an export credit agency in respect of the financing of an export transaction may only provide a loan that respects the relevant interest rates provisions of the Arrangement.
    
4. While Article 17.b) confirms that official support can be provided on a floating rate basis at short-term market rates below CIRR, a narrow interpretation of the provision limits its application to cases of "pure cover" as described above, i.e. loans insured or guaranteed by an export credit agency and extended at short-term market rates without interest rate support from the government. Canada holds the view that official support in the form of direct loans extended by export credit agencies at short-term market rates is equally legitimate under the Arrangement. Indeed, Canada believes that precluding direct lenders from undertaking floating rate transactions would give an undue advantage to those OECD Participants that operate insurance/guarantee systems. Moreover, short-term market rates such as LIBOR can be presumed to satisfy the principles for minimum interest rates set out in Article 15, insofar as they can be applied.
    
5. OECD Participants are fully aware of Canada's practice to offer floating rate financing under official support. While discussions on floating rate practices continue at the OECD, no Participant has alleged that Canada's floating rate practice represents a derogation from the Arrangement. Based on all of the above, Canada is of the firm view that official support provided in the form of direct loans at short-term market rates is fully compliant with the Arrangement and its interest rates provisions.
    
6. Notwithstanding that Canada believes that floating rates are encompassed within the OECD Arrangement, and should be included as "interest rates provisions" and thus fall under the exception in Item k, the issue of floating rates is still under discussion in the OECD. In the interest of contributing to a speedy resolution of this dispute, Canada wants to avoid making this an issue in this case and has consequently decided not to implement any floating rate transactions under Canada Account in the regional aircraft sector unless and until this issue is clarified either under the OECD Arrangement or in the context of WTO proceedings that addresses this issue.

Q3. Would Canada please elaborate on how it intends to comply with the interest rate provisions of the Arrangement, as it has identified them, in respect of Canada Account transactions in the regional aircraft sector?

(a) Please describe the form of forms that all Canada Account transactions in the regional aircraft sector will take. Please indicate, in particular, whether all such Canada Account transactions will take the form of official support for export credits with repayment terms of two years of more. In not please explain, and indicate how such transactions would be considered to be in conformity with the interest provisions of the Arrangement.

Response

1. Any regional aircraft transaction entered into under the Canada Account will likely take the form of direct lending. While official support could be given by way of other means, for example guarantees, it is Canada's practice to provide support via direct lending. Because of the nature of the product, we do not expect any borrower to request repayment terms of less than two years. Accordingly, Canada would expect that all future Canada Account transactions in the regional aircraft sector will take the form of official support for export credits with repayment terms of two years or more. Whether in the form of a direct loan or a guarantee, the interest rates provisions of the OECD Arrangement will be followed.

(b) Will all Canada Account transactions in the regional aircraft sector fall within, and comply with the terms of Articles 7, 9, 10, 13, 14, 17, and 26 of the Arrangement in respect of cash payments, starting point of credit, maximum repayment term, repayment of principal, payment of interest, application of CIRRs, and validity period for export credits, respectively? If not, how would any such transactions be considered to be in conformity with the interest rate provisions of the Arrangement?

Response

1. Except in cases of matching or in cases of humanitarian aid, all Canada Account transactions in the regional aircraft sector will comply with Article 7 ("Cash Payments"), Article 9 ("Starting Point of Credit"), Article 13 ("Repayment of Principal"), Article 14 ("Payment of Interest"), Article 17 ("Application of CIRR"), and Article 26 ("Validity Period of Export Credits"). As for the maximum repayment term, Article 21 of Annex III effectively replaces Article 10 as the relevant interest rates provision for the purpose of compliance with regards to new regional aircraft
    
2. Canada Account transactions in the regional aircraft sector that are undertaken in full compliance with the matching provisions of the OECD Arrangement, will also be in compliance with the Arrangement and its interest rates provisions. This is because matching itself is an interest rates provision of the Arrangement as it specifically allows the offering of terms and conditions that are more favourable than otherwise allowed under the interest rates provisions of the Arrangement, provided they do not render the offer more favourable than the competing offer which is supported by another government and includes non-compliant terms and conditions for the same transaction (i.e., provided the terms do not "overmatch").

(c) Why does Canada not include Article 8 "repayment terms" in its list of relevant provisions?

Response

1. Canada chose not to include definitional provisions in its list. Article 8 does not specify a rule; rather it provides a definition that is required for the purpose of setting rules in the subsequent articles. While the list of interest rates provisions provided to the Panel did not list definitional provisions of the Arrangement, as Canada noted in that document, those provisions apply.

(d) With all Canada Account transactions in the regional aircraft sector take the form of fixed rate financing at interest rates at or above the CIRR? If not, please explain in what sense any floating-rate financing and any below-CIRR fixed rate financing would be in conformity with the interest rate provisions of the Arrangement, given the requirement in Article 22 of the Sector Understanding that the CIRR shall be applied.

Response

1. As indicated in our answer to question 2 b: Notwithstanding that Canada believes that floating rates are encompassed within the OECD Arrangement, and should be included as "interest rate provisions" and thus fall under the exception in Item k, the issue of floating rates is still under discussion in the OECD. In the interest of contributing to a speedy resolution of this dispute, Canada wants to avoid making this an issue in this case and has consequently decided not to implement any floating rate transactions under Canada Account in the regional aircraft sector unless and until this issue is clarified either under the OECD Arrangement or in the context of WTO proceedings that directly address this issue. Accordingly, except in cases of matching or humanitarian tied aid, all Canada Account financing transactions in the regional aircraft sector will take the form of fixed-rate financing at interest rates at or above the CIRR.
    
2. Also, if support were to be provided by way of "pure cover", i.e. a guarantee issued to a lending bank, the interest rates provision in Article 17.b) would be applicable. It is conceivable that the financing bank could price the loan on a floating rate basis and at a face rate below CIRR. The transaction would still be in full compliance with the interest rates provisions of the Arrangement. (Indeed, Article 17 is itself an interest rates provision.) Article 22 of the Sector Understanding simply reconfirms the applicability of the CIRR regime to regional aircraft; this is required because Article 6 of the Sector Understanding creates a different system of minimum interest rates for large aircraft. It is not the purpose of Article 22 of the Sector Understanding to invalidate Article 17.b) of the Arrangement.

(e) Will any so-called "market window" financing or other transactions be undertaken under the Canada Account in the regional aircraft sector? If so, please explain in detail the nature of any such transactions and the sense in which Canada considers the they would be in conformity with the interest rate provisions of the Arrangement.

Response

1. Canada understands this question to ask whether Canada Account financing in the regional aircraft sector will be provided outside of the standard terms and conditions of the OECD Arrangement, notwithstanding whether such financing is consistent with the market. The answer is no. All Canada Account financing in the regional aircraft sector will be within the OECD Arrangement, whether or not the terms of a particular financing transaction are in fact market terms.