WorldTradeLaw.

net Dispute Settlement Commentary (DSC)

Panel Report
Canada - Certain Measures Affecting the Automotive Industry
(WT/DS139,142/R) / DSR 2000:VII, 3043
Parties Timeline of Dispute
Complainants: Japan, EC Panel Request (Japan): November 12, 1998
Respondent: Canada Panel Request (EC): January 14, 1999
Third Parties: India, Korea, U.S. Panel Established: February 1, 1999
Panel Composed: March 25, 1999
Interim Report Issued: October 13, 1999
Final Report Circulated: February 11, 2000
Panelists Notice of Appeal: March 2, 2000
Mr. Ronald Saborío Soto (Chairperson), AB Report Circulated: May 31, 2000
Mr. Timothy Groser, Mr. Rudolf Ramsauer Adoption: June 19, 2000
Table of Contents
BACKGROUND ...........................................................................................................................................................2
SUMMARY OF PANEL'S FINDINGS ........................................................................................................................3
PROCEDURAL AND SYSTEMIC ISSUES .........................................................................................................................3
Deadline for Elaboration of Claims .......................................................................................................................3
Order of Consideration of GATT Article III and TRIMs Agreement Claims .......................................................3
SUBSTANTIVE ISSUES .................................................................................................................................................3
GATT Article I:1 - MFN Treatment......................................................................................................................3
GATT Article XXIV - Regional Trade Agreements .............................................................................................5
GATT Article III:4 - "Less Favourable Treatment" ..............................................................................................5
SCM Agreement Article 1 - Existence of a Subsidy .............................................................................................7
SCM Agreement Article 3.1(a) - "Contingent Upon Export Performance"...........................................................8
SCM Agreement Article 3.1(b) - "Contingent … upon the Use of Domestic Over Imported Goods" ..................9
GATS Article I:1 - Measures Affecting Trade in Services..................................................................................10
GATS Article II:1 - MFN Treatment...................................................................................................................10
GATS Article V - Economic Integration .............................................................................................................12
GATS Article XVII - National Treatment ...........................................................................................................12
SCM Agreement Article 4.7 - Withdrawal of the Subsidy "Without Delay" ......................................................14
COMMENTARY ........................................................................................................................................................15
SCM Agreement Article 4.7 - Withdrawal of the Subsidy "Without Delay" ......................................................15
GATT Article I - De Facto Discrimination..........................................................................................................15
SCM Agreement Article 3.1(a) - Export Contingency ........................................................................................15
Scope of the Term "Requirement".......................................................................................................................15

Key Findings
• The import duty exemption at issue is not accorded immediately and unconditionally to all Members,
and is therefore inconsistent with GATT Article I:1. [Upheld by Appellate Body.]
• The import duty exemption, in conjunction with the "Canadian Value Added" requirements, accords
"less favourable treatment" to foreign products, and is therefore inconsistent with GATT Article III:4.
• The import duty exemption, in conjunction with the production to sales ratio requirements, is contingent
upon export, and therefore violates SCM Agreement Article 3.1(a). [Upheld by Appellate Body.]
• The import duty exemption, in conjunction with the "Canadian Value Added" requirements, is not
contingent "in law" upon the use of domestic over imported goods under SCM Agreement Article
3.1(b). [Panel's findings reversed by Appellate Body because of failure to examine the measures
properly; no conclusion on consistency of measures reached by Appellate Body.]
• The import duty exemption accords "less favourable treatment" to services and service suppliers of
some Members than to those of other countries, in violation of GATS Article II:1. [Panel's analysis
found insufficient by Appellate Body; no further conclusions reached by Appellate Body.]
• The import duty exemption, in conjunction with the "Canadian Value Added" requirements, is
inconsistent with GATS Article XVII.

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BACKGROUND

This dispute concerns duty-free treatment accorded by Canada to imports of automobiles, buses
and specified commercial vehicles ("motor vehicles") by certain manufacturers. This duty-free treatment
is provided under the Canadian Customs Tariff, the Motor Vehicles Tariff Order 1998 ("MVTO 1998")
and the Special Remission Orders ("SROs").

The MVTO 1998 has its origins in the Agreement concerning Automotive Products Between the
Government of Canada and the Government of the United States of America ("Auto Pact"). The Auto
Pact was implemented domestically in Canada by legislation that included the MVTO 1965, which was
replaced by the MVTO 1988 and later by the MVTO 1998. The MVTO 1998 sets out three conditions
that manufacturers must meet in order to be eligible for the import duty exemption. First, the
manufacturer must have produced in Canada, during the designated "base year," motor vehicles of the
class imported. The second condition relates to certain production to sales "ratio requirements."
Specifically, it is required that the ratio of the net sales value of the vehicles produced in Canada to the
net sales value of all vehicles of that class sold for consumption in Canada in the period of importation
must be "equal to or higher than" the ratio in the "base year," and the ratio shall not in any case be lower
than 75:100. Finally, the third condition concerns certain Canadian value added requirements (the "CVA
requirements"). Specifically, it is required that the amount of Canadian value added in the manufacturer's
local production of motor vehicles must be "equal to or greater than" the amount of Canadian value added
in the local production of motor vehicles of that class during the "base year." The MVTO 1998 provides
that the CVA requirement for each manufacturer is to be calculated based on the "aggregate" of certain
costs of production, including: the cost of parts produced in Canada and materials of Canadian origin that
are incorporated in the motor vehicles; transportation costs; labor costs incurred in Canada; and
manufacturing overhead expenses incurred in Canada. The "base year" was set as a twelve-month period
in 1963/64 for those manufacturers that became eligible immediately after implementation through the
original MVTO in 1965.

In addition to the manufacturers that are eligible for the import duty exemption under the MVTO
1998, Canada also designated certain other companies as eligible to receive the exemption through the
SROs. The SROs set forth, for each of these companies, specific production-to-sales ratio requirements
and CVA requirements that the manufacturer must meet in order to receive the import duty exemption.

Finally, as part of the Auto Pact, certain manufacturers were asked by the Canadian Government
to submit Letters of Undertaking, documents that are alleged by the complainants to contain additional
CVA requirements.

In accordance with the obligations of the Canada - U.S. Free Trade Agreement, the list of
manufacturers eligible for the import duty exemption was closed in 1989. Therefore, since 1989, no
additional SROs have been promulgated, and no additional manufacturers have been designated as
eligible for the duty exemption under the MVTO 1998.

(Panel Report, paras. 2.1-33 and 10.1-8; Appellate Body Report, paras. 7-14)

The European Communities and Japan challenged the duty exemption under the GATT, the
TRIMs Agreement, the SCM Agreement, and the GATS. The claims were as follows: 1) the duty
exemption is inconsistent with GATT Article I:1 and GATS Article II:1 because it provides an advantage
to imports and service suppliers originating in the United States vis-à-vis imports of like products
originating in other Members; 2) the duty exemption, by virtue of the Canadian Value Added
requirements, is inconsistent with GATT Article III:4, TRIMs Agreement Article 2.1, SCM Agreement
Articles 3.1(a), 3.1(b) and 3.2, and GATS Article XVII; and 3) the duty exemption, by virtue of the
production to sales ratio requirements, is inconsistent with GATT Article III:4, TRIMs Agreement Article
2.1and SCM Agreement Articles 3.1(a) and 3.2.

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SUMMARY OF PANEL'S FINDINGS

PROCEDURAL AND SYSTEMIC ISSUES

Deadline for Elaboration of Claims

Japan initially did not make any arguments concerning the production to sales ratio requirements
under GATT Article III and the TRIMs Agreement, but reserved the right to elaborate further on the
claims it had set out in its panel request on this issue. (Para. 4.2) Canada challenged this "reservation,"
and requested that the Panel hold, at the outset, that Japan could not raise any additional arguments on this
issue later in the panel proceeding. (Para. 4.5)

The Panel rejected Canada's request. In doing so, the Panel considered that Canada's due process
rights were not prejudiced in this instance. Japan had clearly spelled out its claim in its panel request,
and, according to the Panel, Japan was not required to set forth its arguments in the panel request or even
in its first submission. The Panel assured Canada that it would allow sufficient opportunity for rebuttal
should Japan elaborate on its claim at a later time. As a final "cut-off date," however, the Panel stated
that no new argumentation would be acceptable after the second substantive meeting of the Panel with the
parties. (Paras. 4.11-13) Therefore, the Panel declined Canada's request to rule that Japan could
not raise any additional arguments on this claim.

Order of Consideration of GATT Article III and TRIMs Agreement Claims

The Panel decided to examine the claims in the order presented by the parties: the GATT, the
TRIMs Agreement, the SCM Agreement, and finally, the GATS. (Para. 10.9) The Panel noted that the
panel in Indonesia - Autos had considered it necessary to examine claims under the TRIMs Agreement
before those under the GATT, because the TRIMs Agreement was more specific to the claims. In this
case, however, the Panel was not persuaded that the TRIMs Agreement is necessarily more specific than
Article III:4, and, in light of the parties' disagreement over whether the TRIMs Agreement applies to the
types of measures at issue, the Panel decided to examine the claims in question first under GATT Article
III:4. (Para. 10.63-64)

SUBSTANTIVE ISSUES

GATT Article I:1 - MFN Treatment

The European Communities and Japan claimed that the import duty exemption is inconsistent
with GATT Article I:1, which states:

With respect to customs duties and charges of any kind imposed on or in

connection with importation … , any advantage, favour, privilege or
immunity granted by any Member to any product originating in … any
other country shall be accorded immediately and unconditionally to the
like product originating in … the territories of all other Members.

Japan and the European Communities argued that the limitation of the eligibility for the import duty
exemption to certain manufacturers results in de facto discrimination which is inconsistent with Article
I:1. In addition, Japan alone argued that the import duty exemption is inconsistent with Article I:1
because, by conditioning the duty exemption on criteria which are unrelated to the imported product
itself, Canada fails to accord the exemption "immediately and unconditionally" to like products
originating in the territories of all WTO Members. (Paras. 10.14-10.19)

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The Panel first addressed Japan's claim that the duty exemption is not awarded "immediately and
unconditionally." The Panel considered that Japan was challenging the Canadian measure because the
granting of the advantage, i.e., the duty exemption, is conditional upon meeting certain ratio and CVA
requirements, a condition which, Japan argued, is unrelated to the products themselves. The Panel
rejected this argument, stating that the term "unconditionally" in Article I:1 must be interpreted in its
context and in the light of the object and purpose of Article I:1. In the Panel's view, the word
"unconditionally" does not pertain to the granting of an advantage per se, but must be considered in the
context of examining whether the measure involves discrimination between like products of different
countries. Only advantages that are not granted "unconditionally" to the like products of all Members
will be found to be inconsistent with Article I:1. In other words, according to the Panel, it is not simply
the existence of a condition that renders a measure inconsistent with Article I:1. Rather, it is the failure to
grant the same advantage unconditionally to all Members that violates Article I:1. For these reasons, the
Panel rejected Japan's argument that, because the duty exemption is granted based on conditions that are
not related to the imported products themselves, Canada's import duty exemption is inconsistent with
GATT Article I:1. (Paras. 10.23-30)

Next, the Panel turned to the argument made by Japan and the European Communities that the
limitation on eligibility for the import duty exemption to certain motor vehicle manufacturers is
inconsistent with Article I:1 on the grounds that it results in de facto discrimination. Specifically, they
argued that, although the beneficiaries of the exemption are ostensibly permitted to import motor vehicles
of any national origin, in practice they have chosen, and will continue to choose, to import the products of
particular companies from particular countries. Furthermore, they asserted that the freezing of the list of
manufacturers eligible to import duty-free strengthened the discrimination. (Paras. 10.33)

Examining the Canadian automobile market, the Panel observed that, on the one hand,
manufacturers who currently benefit from the exemption are companies which have links of ownership or
control with motor vehicle producers in particular countries. On the other hand, it noted that there are
automobile manufacturers in Canada, which are subsidiaries of companies based in certain other
countries, that do not benefit from the import duty exemption. The Panel viewed this fact as having
particular significance when considered in conjunction with evidence regarding the predominantly "intra-
firm" character of trade in these products. Specifically, the manufacturers that have qualified for the duty
exemption, such as Ford and GM, import only their own make of motor vehicles or those of related
companies. Similarly, companies such as Toyota, Honda and BMW, which do not benefit from the duty
exemption, also import motor vehicles only from themselves or related companies. (Paras. 10.40-44)

As a result of these factors, the Panel explained, "in a context of intra-firm trade, the limitation of
the availability of the import duty exemption to certain manufacturers, including fully-owned subsidiaries
of firms based in a very limited number of third countries, discriminates as to the origin of products which
will benefit from the import duty exemption." It concluded, therefore, that "imports will tend to originate
from countries in which the parent companies of these manufacturers, or companies related to these
parent companies, own production facilities." (Para. 10.45) In support of this conclusion, the Panel
referred to 1) data presented by the complainants demonstrating that certain Members benefit
significantly more than others from the duty exemption, and 2) the historical context in which the
measures were created, i.e., that they arose from the Auto Pact, which was intended to benefit imports
from a particular country, namely the United States. (Paras. 10.48-49) On this basis, the Panel
concluded that by reserving the import duty exemption to certain manufacturers, Canada accords
an advantage to products originating in certain countries which is not accorded immediately and
unconditionally to like products originating in all other WTO Members, such that Canada's
measure is inconsistent with GATT Article I:1. (On appeal, the Appellate Body upheld the Panel's
finding, under slightly modified reasoning. See DSC for Canada - Autos (AB).)

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GATT Article XXIV - Regional Trade Agreements

Canada raised GATT Article XXIV as a defense to the inconsistency with Article I:1.
Specifically, Canada argued that most of the vehicles that receive duty-free treatment originate in the
United States and Mexico, and duty-free treatment is permitted for these countries under the regional
trade agreement provisions of Article XXIV, as a result of the North American Free Trade Agreement
("NAFTA"). (Para. 10.52)

The Panel rejected the Canadian argument. First, it observed that the duty-free treatment at issue
is provided to countries other than the United States and Mexico. Therefore, it said that the measure
cannot be justified under this provision, as "Article XXIV clearly cannot justify a measure which grants
WTO-inconsistent duty-free treatment to products originating in third countries not parties to a customs
union or free trade agreement." The Panel further noted that the exemption does not apply to all
manufacturers from the United States and Mexico, only eligible ones. Thus, the Panel concluded that this
was not a measure that provides for duty-free treatment of imports of products of parties to a free-trade
area. (Paras. 10.55-56) Therefore, the Panel found that GATT Article XXIV does not provide a
justification for the inconsistency with Article I:1. (Para. 10.57)

GATT Article III:4 - "Less Favourable Treatment"

Both complainants challenged the CVA requirements, operating in conjunction with the import
duty exemption, under GATT Article III:4. The European Communities also challenged the ratio
requirements, operating in conjunction with the import duty exemption, under this provision.

At the outset, the Panel observed certain general features of GATT Article III:4. It first noted the
text of this provision, which states in part:

The products of the territory of any Member imported into the territory
of any other Member shall be accorded treatment no less favourable than
that accorded to like products of national origin in respect of all laws,
regulations and requirements affecting their internal sale, offering for
sale, purchase, transportation, distribution or use.

(Para. 10.71) The Panel explained that the complainants must show that the measures under challenge: 1)
involve a "law, regulation or requirement," 2) "affecting" the sale of the product at issue, and 3) that
accords "less favourable treatment" to imported products than to the like domestic products. With respect
to this latter requirement, the Panel noted that the "no less favourable" treatment obligation has been
interpreted as a requirement to "ensure the effective equality of opportunities between imported products
and domestic products." (Paras. 10.72, 10.78)

CVA Requirements

Both Japan and the European Communities challenged the CVA requirements contained in the
MVTO 1998 and the SROs and contained in the Letters of Undertaking. The Panel examined these
measures separately.

MVTO 1988 and SROs

Japan and the European Communities claimed that the CVA requirements in the MVTO 1998 and
the SROs are inconsistent with GATT Article III:4 because the definition of "Canadian value added"
includes the costs of domestic parts, materials and non-permanent equipment, but excludes the costs of
like imported products. As a result, "less favourable treatment" is accorded to imported parts, materials

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and non-permanent equipment for use in the production of motor vehicles because the use of domestic
parts helps a manufacturer to qualify for the duty exemption, whereas the use of imported parts does not.
As a result, there is an incentive to use domestic parts. (Paras. 10.70, 10.76)

The Panel recognized that the issue was whether the CVA requirements "affect" the "internal
sale, … or use" of products. In this regard, it noted that the word "affecting" has been interpreted to mean
"any laws or regulations which might adversely modify the conditions of competition between domestic
and imported products." It observed that under the facts of this case, the use of imported products cannot
fulfill the conditions set out in the CVA requirements, while the use of domestic products can fulfill this
condition. Therefore, the Panel concluded that the CVA requirements, as a condition for eligibility
for the duty exemption, adversely affect the conditions of competition, thereby resulting in "less
favourable treatment" to imported products in violation of GATT Article III:4. (Paras. 10.80-82,
90) In light of this, the Panel did not consider it necessary to make a specific ruling on whether the CVA
requirements provided for in the MVTO 1998 and the SROs are inconsistent with TRIMs Agreement
Article 2.1. (Para. 10.91)

Letters of Undertaking

The complainants also argued that the CVA requirements contained in certain Letters of
Undertaking submitted by four motor vehicle manufacturers to the Canadian Minister of Industry are
inconsistent with GATT Article III:4. (Para. 10.92)

The Panel first addressed the question of whether the Letters of Undertaking constitute
"requirements" within the meaning of GATT Article III:4, and are therefore covered by that provision.
(Paras. 10.97-10.98) In this regard, the Panel stated that a determination of whether private action
amounts to a "requirement" under Article III:4 must rest on a finding that there is a "nexus" between that
action and the action of a government, such that the government can be held responsible for that action.
The Panel did not consider that earlier GATT cases, such as Canada - FIRA and EEC - Parts and
Components, limit in any way the possibility of finding a sufficient nexus in a situation, as here, where
the undertakings are not legally enforceable. Furthermore, it found that those cases do not limit the
notion of "requirement" to a specific legal form.

Addressing the facts of this case, the Panel examined the "nature of the involvement" of the
Government of Canada with respect to the Letters, as well as the questions of whether the commitments
are binding and enforceable and whether the Government of Canada monitors compliance with them.
(Paras. 10.107-108) The Panel concluded that the Letters constitute "requirements," on the following
basis:

(i) in making the undertakings contained in the Letters, the companies

acted at the request of the Government of Canada; (ii) the anticipated
conclusion of the Auto Pact was a key factor in the decision of the
companies to submit these undertakings; (iii) the companies accepted
responsibility vis-à-vis the Government of Canada with respect to the
implementation of the undertakings contained in the Letters, which they
described as "obligations" and in respect of which they undertook to
provide information to the Government of Canada and indicated their
understanding that the Government of Canada would conduct yearly
audits; and (iv) at least until model year 1996, the Government of
Canada gathered information on an annual basis concerning the
implementation of the conditions provided for in the Letters.

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(Para. 10.122) In light of this, the Panel considered that "the involvement of the Government of Canada
in the action taken by the four companies was such that the commitments contained in the Letters of
Undertaking can be regarded as 'requirements' within the meaning of Article III:4." (Para. 10.123)

Turning to the actual CVA requirements contained in the Letters, the Panel noted that the
commitments in the Letters are easier to meet if domestic products are used than if imported products are
used. Therefore, the Panel found that the Letters of Commitment adversely modify the conditions
of competition for imported products, and are inconsistent with Article III:4. (Para. 10.129) In light
of this, the Panel did not consider it necessary to make a specific ruling on whether the CVA requirements
provided for in the Letters are inconsistent with TRIMs Agreement Article 2.1. (Para. 10.131)

Ratio Requirements

The European Communities argued that the ratio requirements are inconsistent with Article III:4
in that they "affect" the internal sale of motor vehicles by providing an incentive to limit the sales of
imported motor vehicles, thereby according "less favourable treatment" to imported products. The
European Communities explained that, while an increase in the sales value of motor vehicles produced in
Canada by the manufacturer will automatically give rise to an identical increase in the value of permitted
domestic sales, an increase in imports of motor vehicles does not entail a similar increase in the value of
permitted domestic sales. (Para. 10.138)

The Panel stated that in order for this claim to succeed, it must be shown that the limitation on the
net sales value of motor vehicles sold for consumption in Canada and imported duty free "arises from a
restriction on the internal sales of such imported motor vehicles." In other words, "it must be
demonstrated that, because of the ratio requirements, motor vehicles which have been imported duty-free
are subject to a restriction as regards the internal sale of such vehicles in Canada." (Para. 10.146) The
Panel found that the limitation on duty-free imports here is not effected through a "restriction on the
internal sale of such motor vehicles subsequent to their importation." While the European Communities
claimed that the ratio requirements "limit the right to sell in Canada vehicles already imported under the
Tariff Exemption," the Panel stated that the European Communities had not shown how the ratio
requirements could create a situation in which a motor vehicle manufacturer that has been allowed to
import a vehicle duty-free is subsequently confronted with a limitation of the "right to sell" such a vehicle
in Canada. In reality, the Panel said, the situation here leads only to a limitation on the value of vehicles
that can be imported duty-free, and does not limit the right to sell vehicles as such. (Para. 10.148)
Therefore, the Panel rejected the EC claim that the ratio requirements are inconsistent with GATT
Article III:4. (Para. 10.150) In light of this finding, the Panel also rejected the EC claim under
TRIMs Agreement Article 2.1. (Para. 10.150)

SCM Agreement - General

The European Communities and Japan claimed that the import duty exemption constitutes a
subsidy within the meaning of SCM Agreement Article 1. They further argued that, because of the ratio
requirements, the duty exemption is contingent upon export under SCM Agreement Article 3.1(a); and
that, because of the CVA requirements, the duty exemption is contingent upon the use of domestic over
imported goods within the meaning of SCM Agreement Article 3.1(b). (Para. 10.151) The Panel
addressed each of these issues separately.

SCM Agreement Article 1 - Existence of a Subsidy

SCM Agreement Article 1 provides that a subsidy shall be deemed to exist if:

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(a)(1) there is a financial contribution by a government or any public

body within the territory of a Member (referred to in this Agreement as
"government"), i. e. where:
...
(ii) government revenue that is otherwise due is foregone or
not collected (e. g. fiscal incentives such as tax credits) [footnote
omitted];
...
and
(b) a benefit is thereby conferred.

(Para. 10.156) Thus, in order for a subsidy to exist, two elements must be met: (1) there must be a
financial contribution, and (2) a benefit must be thereby conferred. The European Communities and
Japan argued that the import duty exemption meets the first condition in the following manner: customs
duties constitute "government revenue"; and given that customs duties are waived under the duty
exemption, the Canadian Government is "foregoing" revenue that would otherwise be "due." (Para.
10.160)

The Panel noted that absent the import duty exemption, beneficiary companies would be liable to
pay duties of up to 6.1 percent on the import of the motor vehicles in question. On this basis, the Panel
found that the exemption constitutes the "foregoing" of government revenue that would be "otherwise
due." (Para. 10.160) Therefore, the duty exemption constitutes a "financial contribution." The Panel also
found that a "benefit" is "conferred," because the beneficiaries need not pay these customs duties, whereas
other companies must pay the duties. (Para. 10.165)

On this basis, the Panel concluded that, as a result of the Canadian measure, a "subsidy"
exists within the meaning of SCM Agreement Article 1. (On appeal, the Appellate Body upheld the
Panel's finding. See DSC for Canada - Autos (AB).)

SCM Agreement Article 3.1(a) - "Contingent Upon Export Performance"

The European Communities and Japan argued that the import duty exemption is contingent upon
export performance, contrary to SCM Agreement Article 3.1(a), by virtue of the ratio requirements,
operating in conjunction with the duty exemption. Article 3.1(a) provides, in relevant part:

… the following subsidies, within the meaning of Article 1, shall be prohibited:

(a) subsidies contingent, in law or in fact [footnote omitted], whether solely or

as one of several other conditions, upon export performance, including those
illustrated in Annex I [footnote omitted];

Specifically, the European Communities and Japan argued that, where the required ratio is 100:100 or
higher, a beneficiary cannot sell in Canada any value of motor vehicles imported under the import duty
exemption unless it exports an equivalent value of domestically produced vehicles. Furthermore, where
the requirement is less than 100:100, by exporting part of its domestic production, a beneficiary would see
the value of motor vehicles that it may import duty-free into Canada increase by an amount equal to the
value of the exported vehicles. (Para. 10.175)

The Panel first noted the distinction in Article 3.1(a) between contingency "in law" and "in fact."
The Panel stated that export contingency "in law" refers to the situation where "one can ascertain, on the
face of the law (or other relevant legal instrument), that export contingency exists." In other words, an
examination of the "terms" of the underlying legal instrument in question would suffice to determine

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whether or not export contingency exists. The Panel referred to the Appellate Body report in Canada -
Aircraft as support for this conclusion. (Paras. 10.179-10.180)

The Panel then considered whether, by virtue of the ratio requirements, the duty exemption is
contingent in law upon export performance. In this regard, the Panel first examined the situation where
the ratio requirements are 100:100 or higher. The Panel noted that, in order to meet such a requirement,
for every unit a manufacturer imports duty-free, it would have to export an equivalent unit value. Thus,
the only way to import duty-free is to export. It concluded that, where the ratio requirement is 100:100,
because it is impossible to import duty-free without exporting, "the import duty exemption is clearly
'conditional' or 'dependent' upon exportation." (Para. 10.184)

Where the ratio requirements are less than 100:100, the Panel found that the beneficiary will have
a limited "allowance" of duty-free imports for which it does not have to export to receive the exemption.
However, it considered that imports above that "allowance" would require export in order to receive the
exemption. Therefore, the Panel concluded that the import duty exemption is "conditional" or
"dependent" on export performance, even when the ratio requirements are less than 100:100. (Paras.
10.188-189)

On this basis, the Panel concluded that for both ratio requirements of 100:100 or higher
and for ratio requirements of less than 100:100 the duty exemption is contingent in law on export
under SCM Agreement Article 3.1(a). (Paras. 10.190-192) (On appeal, the Appellate Body upheld the
Panel's finding, under slightly modified reasoning. See DSC for Canada - Autos (AB).)

SCM Agreement Article 3.1(b) - "Contingent … upon the Use of Domestic Over Imported Goods"

The European Communities and Japan argued that the CVA requirements, operating in
conjunction with the import duty exemption, are inconsistent with SCM Agreement Article 3.1(b)
because they give preference to domestic over imported goods. (Paras. 10.207-208) Canada responded
that because the CVA requirements can be met without the use of domestic goods (e.g., they can be met
using domestic labor alone), they are not "contingent" upon the use of domestic goods over imported
goods. (Para. 10.209)

The Panel rejected the complainants' claims. First, recalling its finding above that the CVA
requirements in the Letters of Undertaking do not provide authority for Canada to withdraw the import
duty exemption in case a manufacturer fails to meet the commitments contained in the Letters, the Panel
noted that it would examine only those CVA requirements contained in the MVTO 1998 and the SROs.

Next, the Panel began its analysis of the issue by examining the text of SCM Agreement Article
3.1(b):

… the following subsidies, within the meaning of Article 1, shall be

prohibited:
…
(b) subsidies contingent, whether solely or as one of several other
conditions, upon the use of domestic over imported goods.

(Para. 10.211)

The Panel then examined whether the CVA requirements are contingent in law on the use of
domestic over imported goods. In this regard, the Panel found that the terms of the CVA requirements do
not require the use of domestic over imported goods, since they can be met without the use of goods at
all. Therefore, the Panel concluded that the duty exemption is not contingent "in law" upon the use
of domestic over imported products. (Para. 10.216) (On appeal, the Appellate Body found that the

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Panel erred in reaching this finding, because it failed to examine fully the legal instruments at issue. As a
result, the Appellate Body concluded that it did not have a sufficient basis upon which to reach a decision
as to whether the CVA requirements can be met without the use of goods). See DSC for Canada - Autos
(AB).)

The Panel next considered whether Article 3.1(b) prohibits subsidies that are contingent in fact
upon the use of domestic over imported goods. Noting that SCM Agreement Article 3.1(a), governing
subsidies contingent upon export, contains the language "in law or in fact," while SCM Agreement
Article 3.1(b) does not, the Panel referred to the Appellate Body report in Japan - Alcohol for the
principle that "omission must have some meaning." On this basis, the Panel concluded that Article 3.1(b)
does not prohibit subsidies that are contingent "in fact" upon the use of domestic over imported goods.
The Panel therefore declined to examine the EC/Japan claim that the subsidies were contingent in
fact on the use of domestic over imported goods. (Para. 10.221) (On appeal, the Appellate Body
reversed the Panel's finding that SCM Agreement Article 3.1(b) does not apply to contingency "in fact."
Given the Panel's incomplete factual analysis, however, the Appellate Body found that it could not
complete the legal analysis for this claim. See DSC for Canada - Autos (AB).)

GATS - General

Both complainants argued that that the import duty exemption is inconsistent with Canada's
obligations under GATS Article II, alleging that it grants more favorable treatment to suppliers of the
United States than to suppliers of the European Communities or Japan. Japan alone also claimed that the
import duty exemption is inconsistent with GATS Article XVII, alleging that it grants more favorable
treatment to Canadian suppliers of wholesale trade services for motor vehicles, which benefit from duty-
free treatment, than to Japanese suppliers, which do not. (Para. 10.223)

In addition, both complainants argued that the CVA requirements, operating in conjunction with
the duty exemption, are inconsistent with GATS Article XVII, in that they require manufacturers of motor
vehicles to achieve a minimum amount of Canadian value added in order to benefit from the import duty
exemption, thereby according more favorable treatment to services supplied by Canadian suppliers than to
services of other Members supplied through mode 1 ("cross-border" supply") and mode 2 ("consumption
abroad"). Specifically, they asserted that the CVA requirements create an incentive for manufacturer
beneficiaries to procure services from Canadian suppliers. (Para. 10.224)

GATS Article I:1 - Measures Affecting Trade in Services

The Panel first examined Canada's argument that the import duty exemption is not a "measure
affecting trade in services" under GATS Article I, and is therefore not covered by the GATS.
Specifically, Canada argued that as a tariff measure, the exemption affects goods themselves and not the
supply of distribution services. (Para. 10.230)

Referring to the panel and Appellate Body reports in EC - Bananas, the Panel found that the term
"affecting" in this context has a broad meaning, and does not a priori exclude any measure from the scope
of application of the GATS. It concluded that the determination of whether the measure here "affects"
trade in services within the meaning of Article I should be made on the basis of whether they violate the
substantive obligations of the GATS, that is, Articles II and XVII. (Para. 10.234) (On appeal, the
Appellate Body found the Panel's approach to be in error. See DSC for Canada - Autos (AB).)

GATS Article II:1 - MFN Treatment

The European Communities and Japan argued that the import duty exemption violates GATS
Article II in that it constitutes more favorable treatment accorded to services and service suppliers of the
United States than that accorded to other Members. GATS Article II requires that "each Member shall

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accord immediately and unconditionally to services and service suppliers of any other member treatment
no less favourable than that it accords to like services and service suppliers of any other country." The
complainants argued that the exemption constitutes de facto discrimination because, although the criteria
for obtaining the exemption are not based explicitly on nationality, all of the beneficiaries are in fact
suppliers of the United States. Japan also made an argument similar to the one it made under GATT
Article I, claiming that the import duty exemption is inconsistent with the requirement in GATS Article II
that treatment "no less favourable" be accorded "immediately and unconditionally." (Paras. 10.236-237)

Whether the Import Duty Exemption Affects Wholesale Trade Services

The complainants argued that the import duty exemption affects the supply of wholesale trade
services by modifying the conditions of competition between the beneficiaries of the duty-free treatment
and other wholesale trade service suppliers of imported motor vehicles which do not benefit form the
same treatment. In its defense, Canada argued that the import duty exemption is a measure falling
exclusively within the scope of the GATT, as it affects trade in goods. Canada pointed out that, if this
measure were found to affect trade in services because of its effect on distribution services, then
potentially all tariff measures could be found to affect trade in services under the same reasoning. It
argued that this could lead to the anomalous result that some measures which are legal under the GATT
could be found to be in violation of the GATS. (Para. 10.238)

In the view of the Panel, the import duty exemption falls in the third category of measures
identified by the Appellate Body in EC - Bananas, as involving "a service relating to a particular good or
a service supplied in conjunction with a particular good," which "could be scrutinized under both the
GATT 1994 and the GATS." (Para. 10.239) The Panel emphasized that the issue is not the effect of the
differential between the MFN rate of duty and preferential zero-duty itself, but rather, "the effect of
measures which reserve access to duty-free goods to a closed category of service suppliers, while
excluding others." (Para. 10.242) On this basis, the Panel concluded that the measure at issue affects
trade in services. (On appeal, the Appellate Body found that the Panel failed to examine this issue
properly. See DSC for Canada - Autos (AB).)

Whether Service Suppliers are "Like"

The Panel found, and the parties did not contest, that the manufacturer beneficiaries of the duty
exemption and the non-beneficiaries provide "like" services and are "like" service suppliers. (Paras.
10.247-248)

Whether "No Less Favourable" Treatment is Accorded

Canada argued that it is not possible to establish whether "less favourable treatment" has been
accorded, due to vertical integration and exclusive distribution arrangements that exist in the motor
vehicle industry between manufacturers and wholesale trade service suppliers, which exclude any actual
or potential competition at the wholesale trade level. (Para. 10.249) The complainants responded that it
is possible to establish that "less favourable treatment" exists for certain wholesale trade suppliers because
there is potential competition among wholesalers for the procurement of vehicles from manufacturers, and
actual competition for sales to retailers of directly competitive vehicles. (Para. 10.250)

The Panel first stated that the existence of vertical integration of production and distribution does
not "exclude" the possibility of considering the distribution operator as a service supplier. Specifically,
the Panel concluded that vertical integration does not rule out potential competition in the wholesaler-
manufacturer relationship, or actual competition in the wholesaler-retailer relationship. (Para. 10.253)

Next, the complainants had argued that the import duty exemption constitutes de facto
discrimination under GATS Article II, as all or almost all service suppliers of other Members who benefit

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from the exemption are from the United States. Canada responded that not only is nationality not a
criterion for granting the import duty exemption, but that the measures do not de facto grant more
favorable treatment to suppliers of the United States, since at least two manufacturers are of EC origin
(Volvo Canada and DaimlerChrysler Canada), and one is a Japan-United States joint venture (CAMI
Automotive). (Para. 10.255)

The Panel found that "less favourable treatment" had been accorded. Referring to the definitions
of "juridical persons" found in GATS Article XXVIII(m) and (n), the Panel observed that under the
MVTO 1998, the only companies benefiting from the duty exemption are three U.S. service suppliers and
one EC service supplier. Furthermore, the one EC service supplier (Volvo), recently passed under the
control of a juridical person of the United States (Ford). (Paras. 10.256-261) The Panel emphasized that
the manufacturing presence requirements in the MVTO 1998 and in the SROs explicitly exclude suppliers
of wholesale trade services of motor vehicles that do not manufacture vehicles in Canada from qualifying
for the import duty exemption. In addition, in 1989 the Government of Canada stopped granting SROs,
thereby making the list of the beneficiaries of the import duty exemption a closed one. As a result, the
Panel noted, the benefit is granted to a "limited and identifiable group of manufacturers/wholesalers of
motor vehicles of some members, selected on the basis of criteria such as the manufacturing presence in a
given base year." Therefore, "manufacturers/wholesalers of motor vehicles of some Members can import
vehicles into Canada duty-free, while manufacturers/wholesalers of other Members are explicitly
prevented from importing vehicles duty free into Canada." (Para. 10.262) On this basis, the Panel
concluded that the import duty exemption is inconsistent with GATS Article II:1. (Para. 10.264)
(On appeal, the Appellate Body reversed the Panel's conclusion based on the Panel's failure to conduct a
proper analysis. See DSC for Canada - Autos (AB).)

The Panel did not address separately the claim by Japan that the exemption is inconsistent with
Article II because "treatment no less favourable" is not accorded "immediately and unconditionally." In
the Panel's view, this claim was addressed by its finding on whether the exemption constitutes "treatment
no less favourable." (Para. 10.263)

GATS Article V - Economic Integration

Canada endorsed the U.S. third party argument that the import duty exemption, to the extent that
it provides more favorable treatment to service suppliers of the United States, is subject to the exception
to Article II conferred by Article V:1. Specifically, the United States argued that the more favorable
treatment is being accorded by a Member of an economic integration agreement of the type specified by
Article V:1, the NAFTA, to the service suppliers of another Member of that agreement. (Para. 10.265)

The Panel rejected this argument. In doing so, the Panel found that the MVTO 1998 and SROs
cannot be considered as part of the NAFTA provisions on liberalization of trade in services, noting
instead that "NAFTA members have agreed to allow their continued implementation through specific
exceptions granted to Canada." (Para. 10.268) Furthermore, even assuming the MVTO 1998 and SROs
could be brought within the scope of the services liberalization provisions of the NAFTA, the Panel noted
that the exemption is accorded only to a small number of manufacturers/wholesalers of the United States,
to the exclusion of all other manufacturers/wholesalers of the United States and of Mexico. (Para.
10.269)

Therefore, the Panel concluded that GATS Article V:1 does not exempt Canada from its
obligations under GATS Article II with respect to the MVTO 1998 and the SROs. (Para. 10.272)

GATS Article XVII - National Treatment

The complainants challenged both the import duty exemption and the CVA requirements under
GATS Article XVII. That provision requires that "each Member shall accord to services and service

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suppliers of any other Member, in respect of all measures affecting the supply of services, treatment no
less favourable than that it accords to its own like services and service suppliers." (Para. 10.274)

Import Duty Exemption

Japan argued that the import duty exemption violates Article XVII because it constitutes more
favorable treatment accorded to Canadian services and service suppliers, which have the right to import
vehicles duty free, than to Japanese services and service suppliers, which do not. In this way, the
conditions of competition between Canadian beneficiaries of the duty-free treatment and foreign
wholesale trade service suppliers of imported motor vehicles have been modified, in the sense that the
latter group does not benefit from the duty exemption. (Paras. 10.274-10.275)

Canada responded with the following arguments: (1) it has not undertaken commitments in
wholesale trade services of motor vehicles; (2) if it has undertaken commitments, it did not need to
schedule customs duties as national treatment limitations; (3) there are no "like" Canadian and Japanese
suppliers of wholesale trade services for motor vehicles in Canada; and (4) as with GATS Article II, it is
not possible to argue that the import duty exemption modifies the conditions of competition among
wholesale trade suppliers of motor vehicles because, due to vertical integration and exclusive distribution
between manufacturers and wholesalers of motor vehicles, there is no competition to be affected at the
wholesale trade level. (Para. 10.276)

With respect to Canada's first defense, that it had not undertaken commitments in wholesale trade
services of motor vehicles, the Panel rejected Canada's claims. In particular, the Panel focused on the fact
that Canada lists, in its GATS schedule of commitments, an entry for the "Sale of motor vehicles
including automobiles and other road vehicles," with an explicit reference to United Nations Provisional
Central Product Classification ("CPC") number 6111. In the CPC, the entry "6111 Sale of motor vehicles
including automobiles and other road vehicles" includes two sub-headings: "61111 Wholesale trade
services of motor vehicles"; and "61112 Retail sales of motor vehicles." In the Panel's view, if Canada
had meant to limit this commitment only to retail services it should have inscribed entry 61112 in its
schedule, rather than 6111. (Para. 10.280)

With respect to the "likeness" issue, in the Panel's view, there was no clear evidence before it that
the Canadian manufacturers of motor vehicles, which benefit from the import duty exemption, also supply
wholesale trade services of motor vehicles. Thus, the Panel found that Japan did not meet its burden of
proving that "like" domestic suppliers of wholesale trade services exist. (Para. 10.289) Therefore, the
Panel concluded that Japan failed to demonstrate that the import duty exemption accords "less
favourable treatment" to Japanese service suppliers than that accorded to like Canadian service
suppliers. (Para. 10.290)

CVA Requirements

Both complainants argued that the CVA requirements, in conjunction with the duty exemption,
provide an incentive to use services supplied within the territory of Canada over like services supplied in
or from the territory of other Members. In this way, they argued, the CVA requirements modify the
conditions of competition among service suppliers. The Panel noted that the CVA requirements directly
affect services supplied through modes 1 (cross-border supply) and 2 (consumption abroad) of the GATS.

The parties disagreed as to whether Canada had reserved limitations in its Article XVII schedule
for the relevant CVA services. (Para. 10.294) Moreover, Canada argued that for several of the relevant
services, supply in modes 1 and 2 would be impossible because of other limitations scheduled by Canada,
such as those limiting nationality, residency or establishment requirements. (Para. 10.295)

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The Panel found that Canada had undertaken specific commitments in all of the sectors listed by
the complainants as being affected by the CVA requirements. Moreover, the Panel considered that any
limitations scheduled by Canada did not cover the CVA requirements, in that "only a specific limitation
referring to the CVA requirements or an 'unbound' entry would achieve this effect." (Para. 10.296)

The Panel also rejected Canada's arguments regarding the feasibility of providing the relevant
services through modes 1 and 2. Specifically, Canada argued that with respect to "maintenance and repair
work," there can be no discrimination because cross-border supply and consumption abroad of these
services are not technically feasible. In other words, the suppliers and consumers would have to be
located in Canada. Similarly, with respect to lodging and food and beverage services, Canada argued that
choices regarding these services are dictated by geography and have nothing to do with the CVA
requirements. (Para. 10.298)

The Panel considered that although some specific services within the CVA requirements might
not be technically feasible under modes 1 and 2, all other services listed by the complainants can be
supplied through modes 1 and 2, including consulting services related to repair and maintenance work.
Moreover, the Panel agreed with the complainants that a Member cannot exacerbate an inherent
disadvantage to foreign suppliers by further modifying the conditions of competition and then hiding
behind the inherent disadvantage exception in footnote 10 to Article XVII. (Para. 10.300)

Canada also argued that since the CVA requirements can be met on the costs of labor alone, they
do not affect the conditions of competition between Canadian and foreign service suppliers. (Para.
10.302) The Panel rejected Canada's argument, emphasizing the impact of the requirements on the
conditions of competition. The Panel considered that the requirements constitute an incentive to purchase
services supplied in Canada. (Para. 10.304)

Having rejected Canada's general defenses, the Panel then examined whether "less favourable
treatment" was accorded. The complainants argued that the CVA requirements and the duty exemption
create an economic incentive for manufacturer beneficiaries to purchase services supplied in Canada,
thereby modifying the conditions of competition in favor of services supplied in Canada. (Para. 10.306)
The Panel noted that the CVA requirements do not discriminate between domestic and foreign services
and service suppliers operating in Canada under modes 3 and 4. However, the Panel considered that it is
reasonable to consider, for the purposes of this case, that services supplied in Canada through modes 3
and 4 and those supplied from the territory of other Members through modes 1 and 2 are "like" services.
In turn, this leads to the conclusion that the CVA requirements and the duty exemption provide an
incentive for the beneficiaries of the import duty exemption to use services supplied within Canada over
"like" services supplied in or from the territory of other Members through modes 1 and 2, thus modifying
the conditions of competition in favor of services supplied within Canada. Although the measures do not
distinguish on their face between services supplied by service suppliers of Canada and those supplied by
service suppliers of other Members present in Canada, the Panel considered that they are bound to have a
"discriminatory effect" against services supplied through modes 1 and 2, which are services of other
Members. (Para. 10.307) On this basis, the Panel concluded that the CVA requirements, operating
in conjunction with the duty exemption, accord "less favourable treatment" to services of other
Members supplied through modes 1 and 2, and are therefore inconsistent with Canada's obligations
under GATS Article XVII. (Para. 10.308)

SCM Agreement Article 4.7 - Withdrawal of the Subsidy "Without Delay"

With respect to the findings of violation of SCM Agreement Article 3.1(a), the Panel noted that
SCM Agreement Article 4.7 requires a Member to withdraw a prohibited subsidy "without delay," and
that a panel must specify the time period for withdrawal. In this regard, the Panel stated that the Member
must act "as quickly as possible." In addition, the Panel said that, in specifying a time period, it would
take into account the nature of the steps necessary to withdraw the subsidy. Applying these principles,

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the Panel noted that the measures at issue are acts of the executive branch, and therefore amendment or
revocation can be effected quickly. Referring to several other such disputes where executive action was
required to withdraw a subsidy, the Panel considered that a time-period of 90 days for withdrawal is
appropriate, and therefore recommended that the DSB request that Canada withdraw the subsidy within
90 days. (Paras. 11.6-7)

COMMENTARY

For further reading on this dispute and the Auto Pact generally, see:

"The Auto Pact: Investment, Labour and the WTO," (Maureen Irish, ed.), Kluwer Law International,
2003.

Jacqueline D. Krikorian, "Canada and the WTO: Multilevel Governance, Public Policy-Making and the
WTO Auto Pact Case," in Managing the Challenges of WTO Participation - 45 Case Studies (Peter
Gallagher, Patrick Low, and Andrew L. Stoler, eds.), WTO and Cambridge Press (2005).

SCM Agreement Article 4.7 - Withdrawal of the Subsidy "Without Delay"

As of this writing, in most of the disputes involving a prohibited export subsidy, panels have
recommended that the subsidy be withdrawn within 90 days. However, see DSC for U.S. - FSC (Panel),
where a longer time period was recommended in a situation where legislative action was required for
implementation.

GATT Article I - De Facto Discrimination

See DSC for Canada - Autos (AB).

SCM Agreement Article 3.1(a) - Export Contingency

See DSC for Canada - Autos (AB).

Scope of the Term "Requirement"

The Panel found that the Letters of Undertaking submitted by manufacturers to the Canadian
Government constitute "requirements" within the meaning of GATT Article III:4. In making this
determination, the Panel examined the extent of the Canadian Government's involvement with the Letters,
including the expectations that manufacturers had upon signing the letters as to benefits they would
receive from the Government, as well as monitoring activities engaged in by the Government concerning
the implementation of the conditions provided for in the Letters. For a discussion of the nature and scope
of actions attributable to the government in the context of other WTO provisions, see DSC for Japan -
Film (Panel) and DSC for Japan - Agricultural Products (AB).

Last Update: September 6, 2007

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