Special Report no 6/2001

on milk quotas, together with the Commission's replies

(pursuant to Article 248(4), second subparagraph, EC)

(2001/C 305/01)

CONTENTS

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SUMMARY

I. The milk quota regime was introduced in 1984 into the common market organisation (CMO) for milk and milk products with the aim of reducing the imbalance between supply and demand in the milk and milk-products market. The regime sought to cap production by the introduction of "reference quantities" (individual quotas) for milk producers, with a dissuasive levy on milk produced in excess of individual quotas (see paragraph 1).

II. Measures to cut production by around 8 % over a nine-year period were adopted. Milk production in the 15 Member States has stabilised at 120 Mio t. The EU share of the world export market has declined, but the exported surplus has remained stable at around 15 Mio t since 1995. Despite this subsidised surplus, decisions reforming the CMO for milk and milk products provide for a 2,5 % increase in the national reference quantities between April 2000 and April 2005 (see paragraph 3).

III. In previous reports the Court examined the measures adopted up until 1991. This report reviews the Commission management in relation to the measures finally adopted from that date onwards.

IV. The audit sought to assess the effectiveness of the quota regime, as implemented, in reaching the goal of controlling production of milk in the EU and achieving market equilibrium (see paragraph 6).

V. The quota regime can be generally regarded as achieving the objective of restricting production to the target level, surplus production above the national reference quantities being reported as less than 1 % (see paragraphs 9 to 13).

VI. The setting of the overall level of quota has stabilised production. It has not brought milk production into line with unsubsidised internal consumption and unsubsidised export (see paragraphs 14 and 15).

VII. At the same time it has not, to any great extent, hindered the restructuring of the dairy sector within each Member State. The trend towards larger and fewer dairy farms in the EU has continued. The rationalisation of the sector has seen great numbers of small farms disappear. Most remaining farmers earn less than half of their income from farming activities. This is as true of milk production as of other sectors. Moreover, the previously increasing trend of budgetary cost of the CMO for milk and milk products has been reversed (see paragraphs 16 to 24).

VIII. The Commission and Council have allowed the regime to become more and more flexible. This should have implied a decrease of overall quota. Member States may pursue widely differing policies in relation to farm structure within the same milk quota framework. As a result some of the financial and economic advantages that were intended to accrue from the regime have been lost (see paragraphs 40 to 42).

IX. Disposal of the structural surplus of milk will continue to require substantial EU budget support, which might well increase in the future because of the enlargement of the EU, the current trends in consumption and pressure through World Trade Organisation to reduce export refunds. Against this background, the Commission still needs to propose a fundamental reform of the dairy sector which will reduce the overall level of milk production and bring it into line with potential unsubsidised market sales (see paragraphs 61 to 66 and Annex 1).

X. Successive decisions by the Council to increase national reference quantities without substantially reducing intervention prices have left no room for a liberalisation of the milk and milk-products sector comparable to that in the area of arable crops. The expenditure on the milk and milk-products sector has decreased from 4285, 3 million euro in 1983 (27 % of EAGGF-Guarantee expenditure) to 2601,3 million euro in 1999 (6,5 % of EAGGF-Guarantee expenditure). However, expenditure of almost 3 billion euro a year is still required to finance an ongoing surplus which results inevitably from decisions of the Council. This level of support from the European taxpayer is in addition to the higher cost borne by consumers in the EU for milk and milk products (see paragraph 72).

XI. Problems with implementation of the scheme continue. In Italy, the essential problem of enforcing the collection of the levy highlighted in previous reports continues. In Spain and Greece, improvements have been made although problems of outstanding levy debt remain. When individual milk producers do not actually pay the levy, its dissuasive effect is lost and overproduction is encouraged. Moreover, the Commission recovery of the levy debt from the Member State then creates, in effect, a national subsidy for certain milk producers which distorts competition (see paragraphs 32 to 37).

XII. Some 17 years after its introduction, the quota regime is still not fully implemented, as demonstrated by the continued need for reductions in advances and for clearance-of-accounts decisions in respect of some Member States. This illustrates the consequences of perpetuating market distortions through a system which the Member States do not always manage rigorously (see paragraph 70).

XIII. The Commission's role in enforcing the levy and in accounting for the receipt of levy should be reviewed to ensure strict and timely application of regulatory dispositions. The Commission should examine the possibility of improving checks and sanctions under the regime and promote best practice amongst Member States by detailing the checks to be carried out. The Community regulatory framework should provide for a range of sanctions enabling Member States to penalise less serious breaches of regulations by purchasers and direct sellers. In the short term the Commission should examine the possibility of allowing transfer of quota between producers operating in different Member States and reduce subsequently overall quota. In the medium term, the Commission should make proposals for a fundamental reform of the dairy sector aiming at achieving equilibrium between overall milk production and unsubsidised internal consumption plus potential unsubsidised exports while ensuring a fair standard of living for dairy farmers and allowing the quota regime to expire (see paragraph 73).

THE MILK QUOTA REGIME WAS INTRODUCED TO REDUCE THE IMBALANCE BETWEEN SUPPLY AND DEMAND IN THE MILK MARKET

1. The milk quota regime was introduced in 1984(1). It sought to reduce the imbalance between supply and demand in the milk market by capping production at a certain level by the introduction of "reference quantities" of milk (individual quotas) for milk producers. These individual quotas result from the distribution, at national level, of a national reference quantity fixed by the Council for each Member State (national milk quota). A dissuasive levy applies to milk quantities produced in excess of individual quotas(2). This "additional levy", commonly known as "superlevy", must be charged to producers by milk purchasers(3) or to direct sellers(4) of milk by the competent national administration. The proceeds of the levy are declared by the EAGGF paying agencies as "negative expenditure".

2. The milk balance presented by the Commission to the Council showed that the 1984 supply amounted to 120 % of the internal demand and despite exports estimated at 12,7 Mio t equivalent, the surplus within the EU for that year was of 6,7 Mio t(5). The total of national milk quotas for the 10 Member States within the European Community was initially established at 103,7 Mio t (99,9 Mio t for deliveries to dairies), about the same level as the average of deliveries for the years 1981 to 1983. It was, in the opinion of the Court, too high a level, given that internal use of milk and milk products was estimated at 85 Mio t(6).

3. A series of measures aimed at cutting milk production were subsequently adopted(7) resulting in an 8 % overall reduction in quotas over a nine-year period (1984/85 to 1993/94 milk marketing years). Milk production actually fell by around 10 % over the same period. No further adjustments have been made to national reference quantities since then, and levels of milk production within the 15 Member States have stabilised at 120 Mio t. Decisions effective from 2000 laying down the reform of the organisation of the market for milk and milk products, provide for a 1,18 % increase in the national reference quantities between April 2000 and April 2001 and a subsequent 1,28 % increase as from April 2005 (see Annex 1 paragraph 4).

4. Transfers of quota are not allowed between Member States. They are permitted between producers within a Member State but the detailed application of the transfer rules is left to the Member State itself. Member States may allow an almost free market in trading of milk quota. This approach promotes the concentration of quota in the most efficient holdings. Alternatively Member States may centrally control all transfers of quota, transfers being allowed according to administrative criteria laid down by the Member State. This approach pursues regional objectives linked to rural, social or economic development.

5. The results of previous audits, by the Court, relating to the milk quota regime have been published in two special reports(8) and three annual reports(9).

THE COURT'S AUDIT

6. The audit sought to assess the effectiveness of the quota regime, as implemented, in reaching the goal of controlling production of milk in the EU and achieving market equilibrium.

7. In particular the audit sought to assess the extent to which:

(a) the Commission correctly monitors the implementation of the regime, has introduced adequate control procedures and takes the necessary steps to reinforce the regime in the case of infringements or evidence of control weaknesses;

(b) the implementation of the regime by Member States complies with the regulatory framework, particularly in respect of the existence of an adequate national legislative and administrative structure, controls on declarations of milk produced, individual quota assignment, approval of all purchasers, annual checks on purchasers and direct sellers, collection and accounting of the levy in favour of the European Union.

8. The Court examined the Commission's role and audited the implementation of the regime in nine Member States (Germany, Greece, Spain, France, Ireland, Italy, the Netherlands, Portugal, the United Kingdom) covering over 80 % of allocated quota.

IMPACT OF THE QUOTA REGIME ON THE DEVELOPMENT OF THE MILK MARKET

Over time the level of quotas has changed

9. The level of overall quotas in the EU has evolved since 1984 as shown in Annex 2. National reference quantities were cut by an average 8 % between 1984 and 1993.

10. Since the 1993/94(10) milk marketing year, total national reference quantities for the 12 Member States have remained at 109 Mio t. This amount includes a 2,2 Mio t increase over the 1992/93 amount, the bulk of which consisted of the additional national reference quantities of 1,5 Mio t allocated to Italy, Spain and Greece. From the 1995/96 milk year onwards, national reference quantities for the three new Member States, namely Austria, Sweden and Finland, were set at 8,4 Mio t in total. Since that time, total national reference quantities for the 15 Member States have been set at 117,5 Mio t, including 1,6 Mio t for direct sales by milk producers.

11. The adjustment of the national reference quantities for Italy, Spain and Greece and the establishing of national reference quantities for the three new Member States together resulted in an overall 10,6 Mio t increase in the national reference quantities.

Milk production is close to national quota levels

12. Since 1993, milk production has stabilised at around 120 Mio t (see Annex 3). Most of the Member States have decreased their production by over 10 % in relation to 1984, the year in which milk quotas were introduced. Milk production has increased in Portugal (+ 10 % between 1992(11) and 1998) and Greece (+ 9 % between 1984 and 1998).

13. Since the 1995/96 milk marketing year, reference quantities for deliveries to dairies have been systematically exceeded by a small margin (less than one per cent overall) in most Member States despite the reduction in the gap between milk production and national reference quantities. This has been essentially due to the increase in the fat content of the milk. Quantities of milk delivered to dairies are adjusted on the basis of the actual fat content of the milk in relation to a reference fat content that existed at the time the milk quotas were introduced. These corrections cause national reference quantities to be exceeded and the additional levy to be applied (see Illustration 1).

Illustration 1

Gross deliveries of milk to dairies, correction of quantities of milk delivered on the basis of fat content, imports of milk products and domestic consumption of milk products

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Source:

ZMP milk balance sheet - Summary tables of the replies to the questionnaires provided for in Article 8 of Regulation (EEC) No 536/93 (DG AGRI).

The quota level leads however to a structural surplus

14. The increase in the quota level occurred despite the fact that the Community market showed a structural surplus (see Illustration 1).

15. This subsidised export of dairy products has been stable in the last decade at about 15 million tonnes (see Annexe 5 "dairy sector supply balance sheet in milk equivalents" and Illustration 2).

In addition, subsidised internal consumption of butter and skimmed-milk powder (SMP) is estimated by the Court at 10 million tonnes milk equivalent. In fact, from 1991 to 1994, the subsidised butter share of internal consumption rose from 26,8 % to 32 %. Since 1995, Community aid representing on average 30 % of the market price(12) has been granted on around 500000 t of butter or 28 % of the amount consumed on the internal market. Over the same period, the quantity of subsidised skimmed milk used on the internal market(13) has fallen. Aid for the use of SMP has been paid on over 50 % of the quantities consumed on the internal market. This aid has been fixed at some 35 % of the market price(14) (see Illustration 3).

Illustration 2

Milk sector balance sheet (mio t): excess supply over domestic demand, exports and changes in stock

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N. B.:

For 1986 to 1990 EU-12 (new Länder excluded) - For 1991 to 1994 EU-12 (new Länder included) - As from 1995 EU-15, 1998 estimates. For 1992: provisional data published in ZMP milk balance sheet 92 (the updates differ considerably from these data). For the other years: latest data available. Consumption of own produce on the farm and direct sales are not taken into account.

Source:

ZMP milk balance sheet.

Illustration 3

Disposal of milk products (1998)

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Source:

ZMP milk balance sheet.

Budget expenditure

16. The equilibrium of the market in milk and milk products is maintained by means of Community financing for the disposal of 25 Mio t(15) in milk equivalent in 1999, financed at a net budgetary cost of 2601 million euro. The breakdown of the cost of the different measures is given in Annex 6 (see Illustrations 4 and 5). Total payments of the additional levy to the Community budget cover 16 % of the expenditure of the CMO for the milk and milk products sector.

17. Budgetary expenditure on subsidies to the milk and milk-products sector has greatly decreased, in relative terms, since the introduction of the quota system. It shrank from 27 % of EAGGF-Guarantee expenditure in 1983 to 6,5 % in 1999 (see Annex 7). The overall figure of the order of 2,5 billion euro a year is still relatively high to finance what is in effect a surplus implicitly authorised by the Member States. It should be borne in mind that this level of support, by the European taxpayer, is in addition to the higher prices paid by consumers in the EU for milk and milk products (see paragraphs 22 and 63). OECD estimates the additional costs borne by EU consumers of these products at more than 20 billion euro a year(16).

Illustration 4

Common organisation of the market in the milk and milk products' sector

Expenditure broken down by category

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Source:

figures 1988-96: Commission, DGVI, CAP 2000 working document: Situation and outlook dairy sector, Table 14, April 1997 figures 1997-99: drawn up by the Court of Auditors on the basis of documents illustrating the development of EAGGF-Gurantee expenditure, Commission, DGVI. G.2. For 1998 gross expenditure includes expenditure in Chapter B1-20 (ECU 2810,8 Mio) and School milk scheme (ECU 105 Mio) in B1-312 and Social assistance butter (ECU 4 Mio) in B1-313. For 1999 gross expenditure includes expenditure in Chapter B1-20 (ECU 3007,8 Mio) and School milk Scheme (ECU 87,6 Mio) in B1-312 and Social assistance butter (ECU 3,6 Mio) in B1-313.

Illustration 5

Common organisation of the market in the milk and milk products' sector

Expenditure broken down by product or measure

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Note:

Other measures are production abandonment premiums, production temporary-abandonment premiums, etc.

Other products are whole milk powder, condensed milk, etc.

Source:

see Illustration 4.

18. The Court has reported on various aspects of the milk market, in particular the measures used to dispose of the 25 mio t milk equivalent resulting from the level of milk quota currently in force and criticised the lack of a rigorous assessment of the alternatives available. The Commission informed the Court that such a study would be carried out(17).

Production prices and dairy farmers' incomes

19. Dairy farm incomes, calculated by taking the net added value per family work unit (FNAV/FWU)(18), increased by more than farm incomes as a whole between 1984 and 1996 (+ 66 % against + 61 %). Throughout this period, dairy farm incomes were significantly higher than average farm incomes.

20. There are three reasons for this increase: support for production prices, increased dairy farm productivity (see paragraph 23) and direct Community aid from other sectors. Although this type of aid is less substantial for milk than for other agricultural sectors, the contribution it makes to milk producers' incomes has steadily grown, increasing from 7 % in 1990 to 24 % in 1996.

21. The prices paid to milk producers and the incomes(19) of these producers still differ significantly from one Member State to another. Despite a closer alignment of prices since 1984, the highest average price paid to producers in 1999 (in Greece, Italy, and Sweden) was 25 % more than the lowest average price (paid in the United Kingdom, Belgium and Ireland). This disparity is even greater as regards income. The incomes for dairy farmers are lowest in Portugal and Sweden. In 1996-1997, dairy incomes in Portugal and Sweden were only 32 % and 36 % respectively of the average income of milk producers in the European Union. Explanations for discrepancies in price and income are to be sought in the differences in the structure of holdings and purchasers, production cost and level of demand not in the existence of the quota regime.

Costs for the consumer

22. While budgetary costs have continued to decrease, the consumer continues to pay high prices for dairy products, notably as a result of price support measures. For the period 1997 to 1999, the OECD assessed the producer subsidy equivalent (PSE)(20) as being 54 % of the value of output for milk as opposed to 44 % for agricultural products as a whole. In other words, EU consumers pay for dairy products twice as much as they would in a free market.

The restructuring of milk production has continued under the quota regime

23. Between 1979 and 1985, prior to the introduction of the quota system, there was a marked increase in dairy farm productivity. The number of dairy farms was falling by around 4 % each year and numbers of dairy cattle were declining slightly. Average herd size per farm was increasing by 4,5 % each year (see Illustration 6).

24. Dairy farm productivity has continued to increase since the introduction of the milk quota system (see Illustration 7). Average production levels for dairy farms rose by 119 % between 1985 and 1997. This increase can be explained by the increase in production per dairy cow (+ 29 %) and by the growth in the average size of dairy farms (+ 74 %). Milk production is becoming concentrated in ever larger and ever fewer farms (- 56 %). In 1997, farms with over 50 cows accounted for 48 % of all dairy cattle within the Community (as against 31,5 % in 1985).

Illustration 6

Development of the structure of dairy farms

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Source:

EUROSTAT: Enquiries into the structure of farms, data recorded by DGVI: " Situation of Agriculture.." and New Cronos.

Illustration 7

Development of milk production on dairy farms

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Source:

EUROSTAT: Enquiries into the structure of farms, data recorded by DGVI: " Situation of Agriculture.." and New Cronos.

Quota is a valuable asset

25. The initial allocation of quota was made to producers having previously produced milk, without charge. Purely as a result of the existence of the quota regime that quota now has a monetary value. Even in Member States where a market for quotas does not exist, for example France, the land which has a quota attached is worth more than land without. As a result entry into the milk market or increases in the scale of individual holdings are more difficult and more expensive. Abolition of quotas, may give rise to demands for compensation to quota holders.

26. This asset, although a creation of the EU regulations was, at least in one Member State, eligible for funding under the structural funds. In Ireland, a restructuring programme provided for a 75 % contribution from the EU budget toward the purchase cost of quota for eligible farmers. Conversely in Spain, some farmers had benefited from Structural Funds' financing to develop milk production but they could not afford to buy sufficient quota to make an efficient dairy holding. No structural funding for buying sufficient quota was forthcoming.

27. These cases show that such co-financing from the Community budget, adds to the cost of the support for the dairy sector and creates inconsistencies of treatment between Member States.

MEMBER STATES HAVE THE MAIN RESPONSIBILITY FOR IMPLEMENTATION OF THE QUOTA REGIME

28. The Member States are mainly responsible for the implementation and management of the quota regime.

The quota regime causes inefficiencies in milk production

29. Following the last round of accessions, the Community market could have been rebalanced by redistributing the national reference quantities previously allocated to the 12 Member States among the 15. This would have resulted in a reduction in the surpluses disposed of using the Community budget, but the opportunity was not taken. The existence of 15 national reference quantities without provision to transfer quotas between producers operating in different Member States means that the resources used to produce milk cannot be optimised. This hampers the rational development of production and limits production in those EU regions best suited to it. The restriction on transfers and on the offsetting mechanism (see paragraphs 40 to 42) between producers operating in different Member States seems anachronistic from the point of view of a single market and in the light of rules on competition in force in the European Union. Any suppression of these restrictions should imply a corresponding decrease of the global quota.

30. Since 1999/2000 quotas restrict production in all Member States (except the new German Länder). In four Member States (Greece, Spain, Italy, the United Kingdom) milk production is lower than consumption. In three Member States (Denmark, Ireland, the Netherlands) national production is above the level of consumption. This situation has led some producers in the first group to reject what they see as an unfair system. As a result some national authorities, notably in Italy, have faced difficulties in implementing the system against strong social opposition. Table1 shows estimates of self-sufficiency rates by Member State as no figures on internal consumption in milk equivalent were made available by the Commission.

Table 1

Milk equivalent balance sheet by Member State

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Source:

For the quotas and quantities produced: Summary tables of the questionnaire replies (Regulation (EEC) No 5361/93, Article 8, DG VI, updated 9-14/9/1999 - For self-sufficiency: "Zentrale Markt- und Preisberichtsstelle ZMP-Marktbilanz Milch".

31. In Member States where distribution to and transfer of quota between producers is based on administrative criteria smaller farmers generally receive most of the reallocated quotas.

Implementation of the system

32. The Court's previous Special Report No 4/93 criticised three Member States (Greece, Spain, Italy) in particular for their fragmentary application of the quota regime.

33. In Italy, the milk quota regime was still not fully implemented. For the 1995/96 to 1998/99 milk marketing years additional levy amounting to 202,7 million euro 203,4 million euro, 224,8 million euro and 239,5 million euro in each year respectively was due as a result of production exceeding the national reference quantity. The Commission has collected it from the Italian authorities by reducing the monthly EAGGF advance payments. The purchasers of milk, who should collect the levy from milk producers exceeding their quota, have not done so, nor have they paid any significant part of it to the Italian authorities since 1995/96(21) (see Table 2).

34. In Spain, the milk quota regime has only been fully implemented since the 1998/99 milk marketing year. Until then the national authorities had not properly notified the purchasers of the correct amount of levies to be collected nor were all milk producers notified of levies due. Levies were payable for the following milk marketing years 1993/94 (11,4 million euro), 1995/96 (42,1 million euro) and 1996/97 (23,2 million euro). However, the levy bills sent out by the national authorities to the purchasers of milk were challenged legally and the levies were suspended. At the time of the audit, only a small percentage of the levies due had been collected by the purchasers of milk and paid by the milk producers. The Commission has collected the balance, as in the case of Italy, by reducing the monthly EAGGF advances to Spain.

35. In Greece, the situation has improved. The purchasers of milk and the milk producers have been notified of the levies due and significant payments are being made. The levies due in Greece for 1995/96, 1997/98 and 1998/99 were 2,7 million euro, 1,7 million euro and 8,8 million euro respectively.

36. Table 2 shows the proportion of levy due that had been collected from producers in the three Member States provided by the Commission in June 2001.

Table 2

Percentage of levy due collected from producers

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37. The persistence of implemention problems in Italy, Spain and Greece is explained by legal processes which hinder effective collection of the levy from milk producers. Levy demands are being immediately appealed and subsequent legal proceedings take many years. In practice, this has led to indefinite delays in paying the levy.

Audit specific to Member States

Quota allocation and management

38. Milk quotas are defined by the quantity of milk and the fat content of the milk. The initially fixed fat content is used as a reference for adjusting the current year's milk production for each producer. The adjusted quantity of milk produced is compared to quota. The data underlying the initial fixing of the reference fat content have to be kept for three years. The three years' period is insufficent to enable an audit in subsequent years. There should be no time limit for such critical data.

39. In Portugal, production only reached the quota in 2000. The Court asked the national authorities for the production data of the reference period used to fix the initial quota. These data could not be reconciled with the actual quota allocation laid down in the EU Regulation and the Commission could not give any explanation for this.

The offsetting mechanism

40. Shortfalls of individual quotas or unused quotas (e.g. national reserve) may be used to offset overruns at producer or dairy level(22).

41. The detailed choice on how to apply offsetting mechanisms is left to the Member States and, again, wide differences appear between the choices made by Member States. In France, offsetting is kept to a minimum and even in years where no national overrun occurs farmers who overproduce may have to pay a levy, the proceeds of which go to national restructuring measures. In the United Kingdom, offsetting arrangements at both the national and the purchaser levels allow farmers to trade their quota, fine-tuning their individual quota according to the latest estimates of national overrun. At the extreme, cases were seen where farmers, believing that no levy would be payable in a particular year, transferred out 100 % of their available quota (for financial gain) only to find that they were liable to a levy on their entire production when in fact a national overrun of quota did occur.

42. The evolution of the regime to allow various flexible approaches to offsetting erodes the quota regime as an instrument to reduce surplus in the milk market and should be offset by a corresponding decrease of the global milk quota.

Approval of purchasers

43. The regulations foresee that all purchasers of milk must be approved by the authorities in their respective Member States. The withdrawal of approval from a purchaser is the only real sanction available to a Member State in the case of non-respect of the quota regulations.

44. The fact that the withdrawal of purchaser approval is such a drastic step means that it is reserved for the most flagrant abuses of the system. In the two cases the Court examined, approval was withdrawn only after very careful consideration by the Member States (Spain, the United Kingdom). In the case of larger purchasers withdrawal of approval is not a realistic penalty, because of its impact on milk producers.

Observations relating to direct sellers

45. Despite the relatively small quantities involved the Court audited a number of direct sellers who purchased additional milk(23). In such cases, direct sellers need an approval as purchaser. This gives rise to the requirement for a more sophisticated bookkeeping system than that required for other direct sellers(24). Some of the direct sellers audited purchased additional milk without having been granted an approval as purchaser. In general, the direct sellers audited demonstrated considerable weaknesses in their bookkeeping(25) (see paragraph 53).

Controls on purchasers and direct sellers

46. The Member States must, according to the EU regulations, carry out specific checks on the declaration of milk purchasers and direct sellers(26). The audit carried out in the Member States sought to examine whether these checks on totals of milk produced were carried out, their efficiency and the extent to which they could be improved.

47. The regulations require the Member States to:

- annually check at least 40 % of purchasers and 5 % of direct sellers,

- make such checks based on a formalised risk analysis,

- include checks on milk transport collecting milk from farms,

- verify declarations of milk purchased and milk produced at the premises of purchasers and direct sellers, including checks on the accounts and records required to be kept under the regulations,

- take all the verification measures necessary to ensure payment of the milk levy(27).

48. In most Member States, a number of very large purchasers dominate the market and checking the declaration of total milk purchased by them takes substantial time and use of skilled resources. The practice in Member States varied widely. In three Member States (Germany, France, the Netherlands), there was a detailed examination of the declaration and the stock accounts and a subsequent reconciliation to other commercial documents of the company. In other Member States (Greece, Spain, Portugal), the checks were more limited in scope and sometimes relied on records produced specifically for the inspection. No cross-checking to published accounts or other records was carried out (Spain, Portugal). The results of the checks on purchasers (and direct sellers) were found to be poorly documented in three Member States (Greece, Ireland, France, only for direct sellers).

49. Despite the relatively small quantities involved, the inspection of the direct sellers is important, especially given that the majority of direct sellers (including all those visited during the audit) hold quota for both direct sales and normal dairy deliveries. The controls should provide for the cross-checking of delivery and direct sales information. In one Member State (France) this is not facilitated because responsibility for the checks for direct sales and deliveries is given to completely different organisations. Con trols on direct sellers were generally poor. The audit revealed cases where manipulation of different quotas (direct sales and delivery) had been used to cover misdeclarations or to avoid levy liability(28).

50. In only three of the Member States visited (Germany, the Netherlands, the United Kingdom) have transport checks been made during collection from the farm. The application of this requirement(29)had sometimes proved complicated (e.g. deciding on which bodies have the legal right to stop and inspect tankers etc.).

51. In one Member State(30), the producers of milk reduced their declared production by amounts that were considered as consumption on the farm and therefore not required to be declared for levy purposes. These amounts of milk did in fact leave the farm for transformation into cheese etc. at the local cooperative. The producers then took cheese and other products, including non-dairy products, from the cooperative for a value equal to the milk supplied. This practice known as retrocession is contrary to the milk quota regulations, causing the total milk production to be underdeclared. Retrocession was apparently widespread in the area visited and was the subject of an ongoing fraud investigation by the national customs authorities.

Calculation and payment of the levy

52. The calculation of the levy due takes into account the quantity produced, adjusted for the producer's milk butterfat content. In three Member States (France, Ireland, the United Kingdom) cases were audited where the butterfat recording, and therefore the declarations, had been manipulated and caused errors in the calculation of the final quantity produced and subsequent levy due. Fraud and administrative investigations were ongoing in these Member States. The cases seen, the type of manipulations and the complexity of the calculation of the butterfat adjusted quantity, indicate that the Commission could play a more important role in sharing information on the type of manipulation and the methods of detecting such cases.

53. In Portugal to date, the total production declared to the Commission could not be fully reconciled to the records held by the paying agency. Since declared production is approaching or overrunning the national reference quantity, this question is becoming more important and should be addressed quickly.

Declaration of the levy and accounting by the Commission

54. According to Community legislation(31) the Commission, in the case of a Member State not declaring within the time limit (September declarations of expenditure) the amount of levy due to the Community, shall reduce advances in proportion to the amount due or an estimate thereof. The expenditure taken into account in the preliminary clearance decisions shall be reduced accordingly. This provision has been applied to four Member States (Greece, Spain, Italy, the United Kingdom) for recent milk marketing years(32).

55. The timely implementation by the Commission of reductions of advance payments to Member States depends on the timely communication to the Commission(33) of the levy debt estimated by the Member States. Even though figures may not be reliable, the Commission uses the data communicated by the Member States when advance payments are reduced.

56. Reductions of advance payments to Spain, Greece and Italy for the 1995/96 and 1997/98 milk marketing years were delayed for more than six months because of late communication of data.

57. The clearance-of-accounts procedure allows the Commission to decide on the correct amount of levy due. However, leaving the final calculation until then means that the final figures are only available to the Commission with a delay of up to several years. Accounts relating to periods prior to 1994/95 were cleared at the time of the Court's audit, while the Commission was still working on the clearance of accounts relating to 1995/96 and 1996/97. The levy debt estimated by Italy for the 1995/96 and 1996/97 milk marketing years was lower than the figures audited by the Commission. The clearance-of-accounts decision taken in 2000 in relation to these two years was appealed by Italy, to the conciliation body, in November 2000.

58. Penalties are to be applied when the declarations of milk produced from the Member States are late or when the amount of levy due is underestimated by more than 10 %(34). However, despite a number of such cases the penalties have never been applied by the Commission. The normal practice has been to issue a warning letter.

59. According to the Commission, available penalties are not substantial enough, in the case of incorrect or incomplete declarations from Member States which result in an underestimate of the levy due. For the 1996/97 and 1998/99 milk marketing years initial underdeclarations by Italy amounted respectively to 116,2 million euro and to 63,9 million euro.

Interest on late payments

60. The end-of-year declarations of agricultural expenditure by the Member States to the Commission include payments of the levy after the due date. Member States should charge interest on these late payments and pay the amounts in question to the Commission(35). They have to decide, within certain guidelines, on the interest rate to apply. The audit of the accounts shows that three Member States (Germany, Greece, the United Kingdom) have not charged interest on late payment of the levy due for the 1997/98 milk marketing year. Reductions of advance payments to Member States do not cover late payment interest. The Commission can only verify late payment interest when some years after the event a clearance-of-accounts audit adresses the point. At the time of audit the Italian authorities were working on the calculation and billing of the 1995/96 and 1996/97 quota years. The late payment interest foreseen is therefore outstanding in these cases as the only "payment" has been made by reductions in advances.

MANAGEMENT OF THE QUOTA LEVELS

61. In March 1991(36), given the deterioration in the equilibrium of the markets in milk and milk products (notably as concerns the replacement of intervention stocks, see Annex 5), the Commission proposed a 5 % reduction in national reference quantities. This reduction was to be spread over several milk marketing years, with an initial 2 % reduction envisaged for the year 1991/92. The Council(37) adopted this initial 2 % reduction in national reference quantities.

62. The further 3 % cut was never made. The only subsequent changes to national references have been increases in quota for Spain, Greece and Italy (1993). There has been no change in the national reference quantities since that time despite the fact that the fat content has continued to rise, increasing the problems of disposal of excess production. A price reduction of 5 % in the intervention price for butter was implemented in two stages from July 1993, while the intervention price for SMP was reduced by 1,2 % in July 1994. These price cuts proved insufficient to have any effect on supply.

63. As a result, excess production still needs to be disposed of through export refunds and internal consumption subsidies. Consumer prices for dairy products remain twice world market levels, at an annual cost to consumers of around 20 billion euro.

AGENDA 2000

64. In 1997, Agenda 2000(38) set the following objectives for the common agricultural policy for the period 2000 to 2006: increase competitiveness in order to take advantage of the expected positive developments in the world market for food products, ensure a fair standard of living for the agricultural community, integrate environmental goals into the CAP and create alternative sources of income and employment for farmers. Details of the revised Commission proposals are given in Annex 1.

65. The Commission issued a proposal for the reform of the CMO for the milk and milk products sector with a view to attaining these objectives. The main features of this proposal were: an extension of the quota system until 2006, without reducing quota levels; a gradual 10 %(39) reduction in the support price over the period as a whole; a dairy cow premium of 215 euro per cow.

66. The expected results of this reform were: a 2 Mio t reduction in milk production by the end of 2005, a 0,5 Mio t increase in the surplus of milk over internal consumption between 2000 and 2005 and a consequent increase in stocks of SMP.

CONCLUSION

The quota regime

67. The milk quota system, coupled with payment of the additional levy in the event of individual reference quantities being exceeded, has resulted in an average reduction in production of 10 % (for EU-10). The quota regime can be generally regarded as achieving the objective of restricting production to the target level, surplus production above the national reference quantities being reported as less than 1 % (see paragraphs 9 to 13). At the same time it has not, to any great extent, prevented the restructuring of the dairy sector within each Member State. The rationalisation of the sector has seen great numbers of small farms disappear). Many small farms are now providing a second income to part-time dairy farmers (see paragraphs 23 and 24). Moreover, the previously increasing budgetary cost of the common market organisation in milk and milk products has been reversed since 1993 (see paragraphs 16 to 18).

68. However, the setting of the overall level of quota would appear to be more in line with the political goal of maintaining the status quo rather than the economic goal of bringing milk production into line with unsubsidised internal consumption and unsubsidised export (see paragraphs 14-15). The Commission and the Council have allowed the regime to become more and more flexible. This has to be offset by a subsequent decrease of the global milk quota (see paragraphs 40 to 42). Community Regulations(40) have been amended to introduce several measures that limit the financial impact on milk producers of exceeding individual reference quantities and lessen the deterrent effect of the additional levy.

69. The structural surplus (see paragraphs 14-15) requiring substantial financial support from the EU budget to aid disposal is likely to continue. It might well increase in the future because of enlargement of the European Union, and current trends in consumption. World Trade Organisation discussions on the future of export refunds are likely to further complicate matters (see Annex 1). The reforms approved to date do not create the preconditions for liberalisation of the market in milk and milk products. Against this background overall milk production ought to be into line with unsubsidised internal consumption and unsubsidised export.

Implementation of the scheme

70. In Italy the fundamental problem of non-payment of levy by the producers highlighted in previous reports continue (see paragraph 33). In Spain and Greece improvements have been made although problems of outstanding levy debt remain. The Commission has provisionally collected the levy from some Member States by reducing the monthly advances on agricultural spending and in clearance decisions (see paragraphs 34 to 36 and 54 to 59). Whilst this partially protects the financial interests of the European Union the fundamental objective of holding each individual producer accountable for his overproduction is not met. The continued need for both reductions in advances and clearance of accounts decisions in respect of milk quotas shows that the quota regime cannot be said to be fully implemented in all Member States some 17 years after its introduction

71. The deferral, waiver or suspension of the payment of the levy due by the milk producers has multiple effects:

(a) the Italian and Spanish taxpayers have effectively paid the levy via a reduction by the Commission in the amount of EAGGF aid; in the absence of corrective action this is equivalent to a national subsidy to the milk producers which is in clear breach of Community policy, and which gives an unfair advantage to Italian and Spanish producers;

(b) when milk producers do not pay the levy due, its dissuasive effect is lost and overproduction is encouraged.

Milk prices

72. Successive decisions by the Council to increase national reference quantities without substantially reducing intervention prices have prevented a liberalisation of the milk and milk-products sector to mirror that in other agricultural sectors. EU consumers are paying substantially more for milk and milk products than they would in a free market. In addition, 3000 million euro a year is required from the EU budget to subsidise exports and specific internal uses of butter and skimmed-milk powder.

RECOMMENDATIONS

73. The Commission should:

(a) in the short term:

- examine the possibility of allowing transfers of quota between producers operating in different Member States and reduce subsequently overall quota,

- specify the checks to be made by paying agencies in more detail, with a view to ensuring their consistent application and reporting,

- put forward draft legislation providing for the application of graduated sanctions to dairies in breach of quota,

- tighten the arrangements for enforcing and accounting for the levy, and should ensure that interest on late payments is consistently calculated and collected,

- ensure the availability of sufficient reliable data on dairy products in order to provide market-management information such as internal consumption in milk equivalent or self-sufficiency rates by Member State;

(b) make already in 2002 proposals for a fundamental reform of the dairy sector. The objectives should be to achieve equilibrium between overall milk production and unsubsidised internal consumption plus potential unsubsidised exports. It should provide for the ending of the quota regime while ensuring a fair standard of living for dairy farmers.

This report was adopted by the Court of Auditors in Luxembourg at its meeting on 11 and 12 July 2001.

For the Court of Auditors

Jan O. Karlsson

President

(1) Council Regulation (EEC) No 856/84 of 31 March 1984 (OJ L 90, 1.4.1984) introduced the system for five 12-month periods running from 1 April 1984 to 31 March 1989. The system was initially extended until 31 March 1992 by Regulation (EEC) No 1109/88 of 25 April 1988 (OJ L 110, 29.4.1988) and then by Regulation (EEC) No 816/92 of 31 March 1992 (OJ L 86, 1.4.1992). On 28 December 1992, the Council adopted Regulation (EEC) No 3950/92 (OJ L 405, 31.12.1992), which extended the additional levy system for seven new periods of 12 months commencing on 1 April 1993, with the said Regulation cancelling and replacing all prior provisions.

(2) The levy was 75 % or 100 % of the target price for milk during the first three periods, and was increased to 100 % in 1987/88 and to 115 % in 1990. See ECA Special Report No 4/93, paragraph 3.24 (OJ C 12, 15.1.1994).

(3) Council Regulation (EEC) No 3950/92 of 28 December 1992, Article 2(2) (OJ L 405, 31.12.1992).

(4) Council Regulation (EEC) No 3950/92 of 28 December 1992, Article 2(3) (OJ L 405, 31.12.1992).

(5) ECA Special Report No 2/87, Table 3 (OJ C 266, 5.10.1987).

(6) ECA Special Report No 2/87, paragraphs 3.10 to 3.13 (OJ C 266, 5.10.1987).

(7) ECA Special Report No 4/93, paragraphs 4.2 to 4.5 (OJ C 12, 15.1.1994).

(8) Special Report No 2/87 (OJ C 266, 5.10.1987) and Special Report No 4/93 (OJ C 12, 15.1.1994).

(9) Annual Report 1988 (paragraphs 5.33-5.38), Annual Report 1992 (paragraphs 2.17-2.19) and Annual Report 1993 (paragraphs 2.10-2.59).

(10) Council Regulation (EEC) No 1560/93 of 14 June 19963 (OJ L 154, 25.6.1993) amending Council Regulation (EEC) No 3950/92 of 28 December 1992 (OJ L 405, 31.12.1992), established guaranteed quantities for the period 1993/94 based on the following principles: the temporary suspension of the quotas applied in the previous periods became definitive, the Community reserve was definitively integrated into the Member States' quotas, and the quotas for Greece, Spain and Italy were increased.

(11) In Portugal, the milk quota regime became applicable from 1991/92 onwards.

(12) ECA Special Report No 8/2000, paragraph 22 (OJ C 132, 12.5.2000).

(13) Skimmed-milk powder for animal feed, and liquid skimmed milk for feedingstuffs and transformation into casein.

(14) Special Report No 1/1999, paragraph 21 and Table 2 "Skimmed-milk powder balance sheet".

(15) In a document entitled "Situation and outlook dairy sector" (CAP 2000 series of working documents), the Commission calculates the surplus as the difference between production and total consumption, including on-farm consumption and the consumption of farm produce (direct sales). The surplus was therefore estimated to be 8,8 Mio t in 1998. On the basis of information from ZMP (Zentrale Markt- und Preisberichtsstelle), the surplus of deliveries over internal consumption (excluding imports) was 10,8 Mio t. On-farm consumption and farm produce are not covered by the balance sheet published by ZMP, as these products do not, by their nature, give rise to any surplus and there are no statistics available. Table 6 (source ZMP) shows the surplus in relation to the total supply of manufactured products (including imports).

(16) OECD: Agricultural policies in OECD countries, monitoring and evaluation 2000.

(17) Commission reply to Special Report No 8/2000 (OJ C 132, 12.5.2000).

(18) Farm net added value (FNAV) is the total gross output (including own on-farm consumption) minus the fixed and variable costs incurred in carrying on farming activities. It does not include financing charges, labour costs and farm rents. It is adjusted to take into account duties, taxes, premiums and subsidies. It gives a positive weighting to family labour and paid employment, own capital and borrowed capital and farm management. The annual work unit represents the farm work done by one full-time worker over the course of one year, whether paid or unpaid. The family work unit represents the work done by the farmer and the members of his family. Source RICA.

(19) Comparison on incomes is made by using current exchange rates.

(20) The PSE is an indicator of the value of the monetary transfers made to farmers over the course of a given year resulting from the various instruments of agricultural policy. It takes into account price support measures, direct aid to producers, subsidies aimed at reducing production costs and other measures concerning general agricultural services. It is an attempt to quantify the direct transfers financed by the taxpayer and the indirect transfers financed by the consumer that contribute to maintaining farm incomes. Source OECD.

(21) On 16 January 2001, the Italian Consiglio di Stato, acting as appeal judge against decisions taken by Tribunali amministrativi regionali (TAR - Regional administrative tribunals), overturned a decision taken by the administrative tribunal in the region of Lazio which had suspended the collection of the additional levy from a milk producer exceeding the individual quota. Following that, the Italian administration (AGEA - Agenzia per le erogazioni in agricoltura) has renotified the amount of levy due to the milk producer concerned and must now collect the levy. It is expected the Consiglio di Stato will also overturn the other numerous similar decisions taken by the TAR.

(22) Council Regulation (EEC) No 3950/92 of 28 December 1992, Article 2(1) (OJ L 405, 31.12.1992).

(23) Instances noted in Germany, Ireland, the United Kingdom.

(24) Commission Regulation (EEC) No 536/93 of 9 March 1993, Article 7(1)(e) versus 7(1)(f) (OJ L 57, 10.3.1993).

(25) Observations made in Spain, France, Germany and the United Kingdom.

(26) Commission Regulation (EEC) 536/93 of 9 March 1993, Article. 7 (OJ L 57, 10.3.1993).

(27) Commission Regulation (EEC) No 536/93 of 9 March 1993, Article 7(1) (OJ L 57, 10.3.1993).

(28) Manipulation between quotas was seen in France, and a further case was examined in the UK whereby a direct seller sold small quantities of cream and all the remaining milk was delivered to a dairy. However, this milk was, in accordance with Commission guidance, treated as a by-product and did not attract the levy applicable to deliveries but the lower levy relating to direct sales.

(29) Commission Regulation (EEC) No 536/93 of 9 March 1993, Article 7(3) (OJ L 57, 10.3.1993).

(30) France (Jura).

(31) Commission Regulation (EEC) No 536/93 of 9 March 1993, Article 5(2) (OJ L 57, 10.3.1993).

(32) Greece (1994/95, 1995/96, 1997/98 and 1998/99), Italy (1995/96, 1996/97, 1997/98 and 1998/99), Spain (1995/96, 1996/97 and 1998/99), the United Kingdom (1994/95, 1996/97, 1997/98 and 1998/99).

(33) Commission Regulation (EEC) No 536/93 of 9 March 1993, Article 8 (OJ L 57, 10.3.1993).

(34) Commission Decision 93/673/EC of 10 December 1993, Articles 1, 2 and 3 (OJ L 310, 14.12.1993).

(35) Commission Regulation (EEC) No 536/93 of 9 March 1993, Article 3(4) (OJ L 57, 10.3.1993).

(36) COM(91) 72 final of 8 March 1991.

(37) Council Regulation (EEC) No 1630/91 of 13 June 1991 (OJ L 150, 15.6.1991).

(38) COM(97) 2000 final of 15 July 1997.

(39) The Commission proposed in 1998 to increase the reduction to 15 % (see Annex 1, paragraph 1).

(40) ECA Special Report No 4/93, paragraphs 4.17 and 4.22 (OJ C 12, 15.1.1994).

ANNEX 1

The Commission's 1998 proposal

1. The Commission's revised proposal(1) of March 1998 envisaged a reduction in prices (- 15 % in four annual steps starting from July 2000) and a dairy cow premium (EUR 330 as from 2003). The criteria for determining the amounts to be received by farmers were to be established by the Member States. The proposal justified a 2 % increase in the national reference quantities, offset by the effect of a drop in prices on internal demand and the potential for additional exports. The cost of this reform was estimated at 8112 million euro for the period 2000 to 2006 as a whole.

2. In its opinion on Agenda 2000(2), the Court warned that the increases in quotas proposed, and subsequently agreed, would lead to an even greater surplus in the milk market and a continued heavy financial burden on the EU budget.

3. All the options that the Council examined were aimed at reducing the price paid to the milk producer in order to close the gap between the price of milk products on Community markets and their price on the international market, with a view to facilitating the unsubsidised exportation of any surplus production. The following options were examined:

(a) a 10 % reduction in prices with a 2 % rise in quotas and partial compensation for loss of income;

(b) a 30 % reduction in prices with a 4 % increase in quotas and partial compensation for loss of income;

(c) a 2 % increase in national reference quantities without any reduction in price. This option was presented as the least expensive in budgetary terms, as it provided for maintaining direct aid to milk producers at current levels, but had the drawback of maintaining current levels of export aid, despite pressure from the World Trade Organisation (WTO) to reduce or abolish such aid.

4. Finally, the Council decided to extend the quota system until April 2008. The national reference quantities allocated to Greece, Spain, Italy, Ireland and the United Kingdom (Northern Ireland) are to be increased by 1,39 Mio t between 2000 and 2002 and the national reference quantities for the other Member States are to rise by 1,44 Mio t between 2005 and 2007(3). The national reference quantities will then be 2,83 Mio t (+ 2,4 %) higher than those applicable to the 1999-2000 milk marketing year. Prices are to be reduced by 15 % over a three-year period starting in 2005. Compensatory direct aid payments will only be made from 2005 onwards. The maximum budgetary cost payable, totalling 13,9 euro/t in 2005, will swiftly rise to 41,7 euro/t in 2007(4).

Impact of the Council's Decision

5. According to the Commission's medium-term forecasts, demand for butter will fall by 0,8 % per year and demand for SMP by 2,2 % per year. Demand for cheese will increase by 1,1 % per year. In short, consumption will decrease by around 350 thousand t per year(5) in milk equivalent. In this case, the surplus estimated by the Court to be disposed of on the world market would rise by 2,86 Mio t per year between 2000 and 2005, without taking into account enlargement, whose impact on the surplus for export from 2005 has been assessed by the Commission at an additional 2 Mio t in milk equivalent(6).

6. In the absence of any significant fall in prices in the internal market (or rise in the world market), the disposal of this surplus on the world market will result in additional expenditure being incurred. The scale of these additional costs will depend on the price paid to producers, which in turn determines the amount paid in export refunds and in aid for disposal on the internal market.

7. The Commission's scenarios implicitly call for discussion of the following issues.

(a) To what level should institutional prices be reduced in order to minimise the gap between prices on the internal market and prices on the world market? On the internal market, wholesale prices for butter(7), SMP and Cheddar are generally double those on the world market.

(b) What is the potential for increasing Community exports? World trade in milk products is limited. Only 13 % of international butter production and 8 % of international cheese production is traded on the world market. Between 1995 and 1998, the export restrictions imposed by the GATT Agreements only limited exports of cheese. The European Union has consistently lost market share for all milk products. Of late, world trade has been dominated by New Zealand and Australia, with the European Union only retaining the lead in exports of cheese(8). In 1985, exports of butter from the European Union amounted to 46 % of all world exports. They currently represent no more than 25 %.

(c) How can one reconcile the many objectives of the CAP in the milk and milk products sector? In moving the CMO towards a "market economy", other Community measures must be developed, aimed notably at supporting milk producers in mountain areas or other areas in which there is no alternative to dairy farming.

Enlargement of the Union

8. Since the Court's Opinion No 10/98 on Commission proposals for regulations within the Agenda 2000 framework, in particular on the Commission's hypothesis on the COMs for beef, veal and milk and milk products(9), the Commission issued in December 1999 Prospects for Agricultural Markets 1999 to 2006. This publication outlines likely developments of agricultural markets for the EU-15 and the CEEC-10 up to 2006. It takes fully into account the implementation of the CAP reform from 2000 onwards, as adopted in the framework of Agenda 2000. No assumptions were made concerning dates and conditions of entry into the EU by candidate countries, nor does the Commission provide detailed projections on the implementation of the current milk quota scheme in the 10 CEEC applicant countries.

9. The Commission's description of the eventual implementation of a milk quota scheme in the five applicant countries the Czech Republic, Estonia, Hungary, Poland and Slovenia, call for the following comments. In the CEEC, the production of beef and veal is mainly linked to the dairy herd, as there exist only limited numbers of herds with suckler cows. The linked markets for milk and beef/veal therefore play an important role for their agriculture. Milk production has particular importance for Poland, the Czech Republic and Hungary. According to the forecasts, the likelihood of a milk market surplus for the year 2006 is high, both in EU-15 and in the CEEC(10). There is an urgent need for the Commission to make a comprehensive and authoritative evaluation of the impact of the current quota system on the milk and beef meat markets after enlargement and the cost to the EU budget(11).

(1) COM(1998) 158 final, 18 March 1998.

(2) Opinion No 10/98 of the Court of Auditors.

(3) Council Regulation (EC) No 1256/1999 of 17 May 1999 (OJ L 160, 26.6.1999).

(4) Council Regulation (EC) No 1255/1999 of 17 May 1999, Article 16(1). "Producers shall qualify for a dairy premium. It shall be granted per calendar year, per holding and per tonne of individual reference quantity eligible for premium and available on the holding." Article 18(2) lays down the total amount which may be granted per individual reference quantity, i.e. 13,9 euro per tonne in 2005, 27,8 euro per tonne in 2006 and 41,7 euro per tonne in 2007. OJ L 160, 26.6.1999.

(5) Projections made in the study by AGRA Europe (published 1997) and reproduced by the Commission in its review of the CAP, October 1998.

(6) Agenda 2000 Vol II, COM(97) 2000 final, 15 July 1997.

(7) Special Report No 8/2000, paragraph 13 (OJ C 132, 12.5.2000).

(8) Moreover, non-refund exports totalled 80664 t.

(9) OJ C 401, 22. 12.1998, paragraph 45 ff.

(10) See Prospects 1999 to 2006, graph 1.15 and Table A3.

(11) Court's Opinion No 10/98, paragraph 48 (OJ C 401, 22.12.1998).

ANNEX 2

MILK QUOTA

(Available quotas taking into account the use of EU reserve and SLOMs and suspended quantities)

>TABLE>

Source:

1984/85 to 1992/93: DGVI document: Summary of answers of Member States to the questionnaire, Article 8.

1993/94: Table in Article 1 of Council Regulation (EEC) 1560/93 of 14 June 1993, applicable from 1 April 1993.

1994/95: Table in Article 1 of Commission Regulation (EC) No 630/95 of 23 March 1995, applicable from 1 April 1994.

1995/96: Table in Article 1 of Commission Regulation (EC) No 1109/96 of 20 June 1996, applicable from 1 April 1995.

1996/97: Table in Article 1 of Commission Regulation (EC) No 614/97 of 8 April 1997, applicable from 1 April 1996.

1997/98: Table in Article 1 of Commission Regulation (EC) No 903/98 of 28 April 1998, applicable from 1 April 1997.

1998/99: Table in Article 1 of Commission Regulation (EC) No 751/1999 of 9 April 1999, applicable from 1 April 1998.

For the periods 87/88 to 92/93, the QGG is reduced by the suspended quantities and increased by the use of the Community reserve and SLOM.

ANNEX 3

PRODUCTION AND DELIVERY OF COW'S MILK

>TABLE>

NB:

Germany (-): New Länder excluded, Germany (+): New Länder included.

Source:

EUROSTAT New Cronos, last updated 21.2.2000.

ANNEX 4

DELIVERIES OF COW'S MILK

>TABLE>

NB:

Germany (-): New Länder excluded, Germany (+): New Länder included.

Source:

EUROSTAT New Cronos, last updated 21.2.2000.

ANNEX 5

>TABLE>

NB:

For 1986 to 1990 EU-12 (new Länder excluded). For 1991 to 1994 EU-12 (new Länder included) - As from 1995 EU-15, 1998 estimates.

Source:

ZMP milk balance sheet.

>TABLE>

Source:

DG VI Reports on the situation in agriculture.

ANNEX 6

COST OF THE CMO OF MILK, BREAKDOWN BY CATEGORY AND PRODUCT

>TABLE>

Sources:

Figures for 1988 to 1996: Commission, DGVI, CAP 2000 working document: Situation and outlook dairy sector, Table 14, April 1997.

Figures for 1997 to 1999: drawn up by the Court of Auditors on the basis of documents showing the changes in EAGGF-Guarantee expenditure, Commission, DGVI. G.2.

ANNEX 7

BUDGETARY COST OF THE CMO FOR MILK AND MILK PRODUCTS

>TABLE>

Sources:

Figures 1988-96: Commission, DGVI, CAP 2000 working document: Situation and outlook dairy sector, Table 14, April 1997.

Figures 1997-99: drawn up by the Court of Auditors on the basis of documents showing the changes in EAGGF-Guarantee expenditure, Commission, DGVI. G.2.

The commission's replies

SUMMARY

The Court of Auditors notes in its special report that the system of quotas has achieved the objective of reducing milk production within the EU (point V), has considerably reduced budget costs (point X), and has stabilised the dairy sector, and that structural development has been positive (point VII). The Court also notes an increase in dairy producers' incomes (point 19), coinciding in particular with a sharp fall in budget expenditure on the dairy sector (point X).

The Court stresses, however, that the quotas are too high since, out of a total of 120 million tonnes produced, roughly 15 million tonnes is disposed of on the world market under a system of refunds, and 10 million tonnes is sold on the internal market with the help of subsidies (points II, X and 15). According to the Court, the Commission should propose a fundamental reform of the sector in order to achieve a better balance between production, unsubsidised consumption and unsubsidised exports. As the Commission sees it, this would mean a reduction of about 20 % compared with current quota levels. The Court's proposal is that the system of quotas should then be discontinued (point XIII and Recommendations).

The Commission takes the view that, when setting the level of the quotas, far from a reduction in budgetary expenditure being the only consideration, many other aspects should be taken into account, i.e. not only those arising from Article 33 of the Treaty (rational development of production, fair standard of living for the farming population, stable markets, security of supply and reasonable prices to consumers), but also political, economic and regional balance, the importance of the processing industry, rural development, the environment, historical international position as an exporter, etc.

It is clear, from the Council's decisions, that adapting milk production to the level of internal consumption was neither a political nor an economic objective.

As the Commission sees it, reducing the quotas is not, from a budgetary point of view, consistent with their abolition. The Court notes at point 25 that a reduction in the quotas might result in compensation payments to producers. Compensation for a reduction of about 20 % on the amount granted in 1991, i.e. ECU 100/tonne for five years, would already cost EUR 12,5 billion. If, after the regime has been abandoned, production returns to the same level, there appears to be little logic in investing in a possible compensation scheme against a background of a reduction in quotas.

A reduction in quotas will, in the short term, also lead to greater imbalance on the meat market since, if the quota is 20 % lower, an equivalent percentage of dairy cows will have to be slaughtered.

A fundamental reform of the common organisation of the market in milk (point X) entailing liberalisation of production on the model of the arable crops sector (cereals and oilseeds) would not resolve a possible budgetary problem. On the contrary, such a reform would be very costly in budgetary terms, because bringing prices down to the world market level would have to be offset by direct aid to producers.

On the heavy cost European consumers must pay for milk and milk products because of the current level of prices, the Commission does not feel that liberalisation of the milk market on the same basis as for cereals would, generally speaking, mean lower costs to those consumers. Moreover, experience has shown that a reduction in the price at producer level is not automatically reflected in consumer prices.

The Commission cannot, therefore, go along with the Court's criticism of the cost of the current regime to taxpayers and consumers (see also point 22).

The quota system had, for political, administrative and control reasons, to be based on a national quota for each Member State. A possible transfer of quotas between Member States (point XIII) could well bring into question the very basis of the rules governing quotas, as laid down in Council Regulation (EEC) No 3950/92, and would be at odds with the current system since the latter, and with it the payment of the levy, is managed at national level.

A consequence of the system of quotas per Member State is that production has been maintained in the less-favoured regions of the Community, especially in mountain areas, where production costs are higher and dairy farming is often the only agricultural activity available. The Commission feels, moreover, that concentrating milk production could well give rise to major environmental problems. What is more, the wide variety of quality or typical products - such as registered-designation-of-origin cheeses and other local produce - produced in the EU might be jeopardised. The wealth of the dairy sector rests in particular on the diversity of production in the various Member States. To concentrate production in certain regions would lead to a standardisation of products and, therefore, to lower quality.

Moreover, such a major change in the administration of the quota would not appear to be in keeping with the Court's proposal to abandon the system altogether.

Although the future of the quota system merits close scrutiny, and the Council has undertaken to carry out a mid-term evaluation in 2003 with a view to discontinuing the current quota system after 2006, the Commission takes the view that the Court's report does not put forward sufficient grounds for abandoning the regime.

The decisions adopted by the Council in the context of Agenda 2000 (point II) were the outcome of intense political negotiations, and the increase in the quotas was the quid pro quo for extending the scheme beyond 31 March 2000, the date of expiry of the 1992 rules. Moreover, an increase is being made possible by the planned reduction in institutional prices with effect from 2005. Specific increases are not expected to contribute to greater imbalance since they tend to correspond to quantities already produced.

The flexibility provided for in Community legislation (point VIII) is necessary in order to counteract the regime's intrinsic structural rigidity. If the flexibility criticised by the Court had not been allowed, producers would have found it very difficult to adapt. Moreover, the quotas are complied with on the whole and the Commission has always seen to it that the Community rules concerned are properly applied. While the management system may have given rise to a number of inaccuracies in some Member States, those inaccuracies have never been such as to jeopardise the operation of the regime.

It is premature to consider a future increase in the surplus (point IX): no decision has been taken on the principle of the quotas, or their level in the applicant countries; the current positive trend of the consumption of milk products would suggest a reduction in support (intervention stocks are almost down to zero); the results of the WTO negotiations and their current impact on EU exports still have to be looked into.

The Commission has made great efforts to enforce the payment of the levy (point XIII), reducing the advances when the levy is not paid within the time allowed, making corrections in the clearance-of-accounts procedure in respect of all levy not credited (with the exception of amounts due to irregularities) and calculating and correcting for interest for late payment of levy up to the date of the clearance decision. However, it should be noted that the Member States concerned have challenged those financial corrections before the Court of Justice (see point 33). In the course of its missions to Member States, the Commission scrutinises the checks and sanctions in place and makes recommendations regarding those checks and sanctions, both during the mission and afterwards by official letter. In the course of its next mission to the Member State the Commission verifies whether the recommendations have been followed up. The Commission always tries to promote best practices amongst Member States and, during inspection missions, explains how other Member States have applied the rules to good effect.

All told, two infringement procedures, one against Italy (reasoned opinion 97/2228) and one against Spain (reasoned opinion 97/2227) are still pending, for incorrect application of the system of quotas and, in particular, for failure to collect the additional levy (points XI and XII). For the majority of Member States, no financial correction or only a small correction is necessary in the clearance-of-accounts decisions. Up to 1999, reductions of advances were necessary for four Member States: Greece, Spain, Italy and the United Kingdom. (The reductions for the United Kingdom in 1996/97 and 1998/99 account for 3 % and 4 % of the uncollected levy respectively).

On its own initiative the Commission will soon adopt a new draft regulation on the detailed rules for the application of the milk quotas. This provides for tighter checks and stiffer sanctions (see also points 43 and 44).

THE MILK QUOTA REGIME WAS INTRODUCED TO REDUCE THE IMBALANCE BETWEEN SUPPLY AND DEMAND IN THE MILK MARKET

4. Concentrating production on the most efficient holdings (not to be confused with concentrating it on certain regions - see point XIII) is desirable.

IMPACT OF THE QUOTA REGIME ON THE DEVELOPMENT OF THE MILK MARKET

The quota level leads however to a structural surplus

15. The quantities of skimmed milk powder (SMP) disposed of on the internal market with the help of subsidies are for 1995 to 1998. In the case of 2001, aid to SMP will cover about 45 % of the quantity consumed on the internal market. The aid was reduced by 15 % in October 2000 and now accounts for less than 25 % of the market price. Subsidised butter (including cream) totalled 427000 tonnes in 1991 and 523000 tonnes in 1994. Since 1995 between 494000 and 520000 tonnes of butter (including cream) has been subsidised. The subsidy has been reduced by about 35 % since the beginning of 1995.

Budget expenditure

16. The net budgetary cost of EUR 2601 million not only makes it possible to achieve a balance on the market, it is also aimed at contributing to all the objectives of the common agricultural policy, such as those relating to producers' incomes and rural development, plus other economic aspects such as employment within processing undertakings.

17. The Commission notes that the 2001 budget again confirms the trend observed by the Court of Auditors: appropriations for the dairy sector do not exceed EUR 2,4 billion, compared with almost EUR 4,3 billion in 1983. The quota system has in this respect been a major instrument of control over expenditure.

The Commission would state once again that the cost of the dairy sector to the taxpayer has fallen sharply and that the price paid to producers has only a slight influence on consumers (see point 22).

18. The Commission would point out that the study referred to by the Court of Auditors concerns an evaluation of the milk market organisation as a whole, i.e. including quotas, and will constitute the initial basis for discussion of the mid-term review by the Council in 2003 (see point 73(b)).

Production prices and dairy farmers' incomes

19. A comparison between the 1984 Community of Ten and the EU-15 of 1996 is not possible on the basis of the FADN (farm accountancy data network) data available.

Costs for the consumer

22. The series used by the OECD to calculate the PSE (producer subsidy equivalent) come from disparate sources and, as a consequence, the comparability of the data is poor. The OECD's calculations are, in the Commission's opinion, entirely theoretical since in essence they compare internal prices in the European Union with world market prices. The gap between the two is multiplied by total milk production in the European Union to arrive at the PSE. Additional factors of uncertainty are the EUR/USD exchange rate and the volatile nature of the "world market".

Prices for individual products on the internal market and, above all, the world market are difficult to estimate. The task is made more difficult by the fact that the prices are converted into a milk-equivalent average whereas processing coefficients are far from homogeneous, even within the European Union (e.g. according to the type of cheese). Thus, when dealing with the world market, comparisons based on the milk equivalent can be seriously flawed. Lastly, the Commission cannot agree with the Court's claim that abolishing protection at the borders of the internal market would bring consumer prices down to the current world market level, since the world market price would settle at a higher level, given the size of the dairy economy in relation to what is a fairly small world market and the importance of the European Union in the context of that market.

Moreover, the world market is dominated by exporting third countries which themselves have support systems equivalent to those of the Community and/or centralise their exports via State enterprises.

Quota is a valuable asset

25. Quotas were imposed as a restriction in 1984 and, as pointed out by the Court, resulted in an average reduction of 10 % for producers in 1999 in relation to 1984, a reduction which in many cases gave rise to financial compensation. Successive reductions in quotas were thus accompanied by compensation, or by incentives to voluntary withdrawals in order not to dismantle production capacity. Their cost is very small in relation to the overall budgetary improvement which resulted from their introduction. It is therefore unsurprising that the right to produce milk should now have a monetary value, something which, incidentally, demonstrates that the quota system is being properly implemented on the whole.

26 and 27. The Commission agrees with the Court's analysis that milk quota has a monetary value and is traded in several Member States. The Commission took the general view that neither the Structural Funds nor national public funds should be utilised to assist quota purchases. Indeed no Member State should allow aid to be granted for other investments in dairy farms where this has the effect of exceeding the milk quota available to the farmer (see Article 6(3) of Regulation (EC) No 950/97(1). The only exception to this was the Irish case quoted, where a subsidy scheme for milk-quota restructuring was approved under the operational programme for agriculture, rural development and forestry (1994 to 1999). The scheme operated for two seasons, to help improve the structure of Irish production in a situation where small farmers had been unable to compete effectively in the market for milk quota.

The granting, in the milk-production sector, of investment aid which would result in an overshoot of the reference quantity applicable under the rules governing the additional levy in the milk and milk-products sector can be ruled out, except if an additional reference quantity has either been granted beforehand or has been obtained by transfer in accordance with the said rules.

It was therefore quite normal that some farmers should receive aid to improve the situation of their dairy holding, especially for milk quality, under very specific and restrictive conditions. In such cases no aid was possible without first having sufficient milk quota under the rules defined by the market organisation. It therefore comes as no surprise that, with the exception of the Irish case quoted above, no Structural Funding for buying sufficient quota was forthcoming. This situation prevailed in the EU as a whole and was in no way specific to Spain.

MEMBER STATES HAVE THE MAIN RESPONSIBILITY FOR IMPLEMENTATION OF THE QUOTA REGIME

29. In the Commission's opinion, the Court views the milk quota regime from a purely budgetary perspective and overlooks the importance of quotas in maintaining milk production in less-favoured or other areas, where there are few alternative forms of production. The system of dairy quotas is part of the market organisation for milk, the objectives of which are directly linked to the maintenance of producers' incomes.

Moreover, combining accession with a reduction in the quotas of EU producers would appear to be out of the question in political terms. With regard to transfers of quotas between Member States, please see comments on "Summary".

30. The national reference quantities were determined on the basis of historical records of production and not consumption. The allocation of individual reference quantities to producers was done on the same basis and each producer was thus treated in the same way.

On the matter of statistical data it is true that the Commission does not have precise figures for the internal consumption of milk products. This is because it is impossible to obtain all the information needed to produce them. Thus, in order to quantify the self-supply of milk and milk products it is necessary to know how much milk and milk by-products have been used in a whole series of sectors of activity, in some cases outside the dairy industry altogether, information which is simply not available. Moreover, Member States are not required to draw up dairy supply balances.

The information on the availability and use of milk and milk products which is obtainable under current data-gathering arrangements is accordingly not sufficiently precise to allow any reliable interpretation to be drawn in terms of control.

Implementation of the system

32 and 33. Problems remain with the collection of the supplementary levy in Italy. As in the case of some other Member States, notably Spain, those problems are also due to the fact that producers and purchasers have challenged the levy before the national courts and that the legal proceedings are very lengthy.

The Commission has reacted to this situation by reducing the monthly advances for the Member States in question and by imposing on them financial corrections in the context of the clearance-of-accounts procedure, both for the outstanding levy amounts and for the interest for late payments. The Member States concerned have challenged those financial corrections before the Court of Justice. In Case C-277/98 the Advocate-General has recently presented his conclusions, proposing that the Court annul the Commission's decision. A judgment has yet to be rendered in any of the cases, however.

With regard to the previous remarks of the Court in Special Report No 4/93, producers have now all been allocated individual reference quantities. The reference to the "lack of checks or lack of strictness in the supervision and control exercised by the competent authorities" is, since the launching of the extraordinary control operations in 1998, no longer correct in the case of Italy.

34. The milk quota regime has been fully implemented since the 1998/99 milk period. However, while the Commission auditors are pleased with the marked improvement in the Spanish situation since 1998/99, further progress can be made. The Commission is monitoring ongoing improvements in the Spanish application of the regime. The improvements made by the Spanish authorities are the direct result of action taken by the Commission during numerous on-the-spot missions, by written letter, by reductions of advances, by corrections in the clearance of accounts and by the launching of infringement proceedings, all of which induced the Spanish authorities to make the drastic legislative and organisational changes which have led to the manifest improvement commented upon by the Court.

Up to the 1998/99 milk period, however, problems occurred in the recovery of the levy. These were due to failures on the part of the national authorities and contributed to the widespread legal challenges lodged by purchasers and producers. As the legal procedures in Spain are multi-tiered and lengthy, large percentages of the levy, even for 1993/94, are still outstanding.

35. The improvement in Greece is also a direct result of the numerous missions carried out by the Commission and the recommendations for changes made to the Greek authorities as well as their willingness to work to improve their management of the quota regime.

37. The Commission refers to its comment on point 33.

Audit specific to Member States

Quota allocation and management

38. When adopting Regulation (EEC) No 4045/89 on scrutiny by Member States of transactions forming part of the system of financing by the Guarantee Section of the European Agricultural Guidance and Guarantee Fund, the Council took the view that a three-year period was sufficient.

39. Since Portugal would normally be required to pay the additional levy for the first time in respect of 1999/2000, the Commission has withheld EAGGF advances for the corresponding sum, but a draft Regulation exempting producers in the Azores from payment of the levy for up to 73000 tonnes was recently adopted by the Council (28 June 2001) in the context of the "Poseima" Regulation. The levy payable in respect of 1999/2000 will accordingly be reduced to zero. The collection of the sums payable by purchasers and producers has therefore been suspended.

The offsetting mechanism

41. If it is felt that no levy should be payable in a particular year, the transfer price of the quota should be zero or close to zero, with the supplementary levy remaining at a deterrent level.

42. The reallocation of unutilised quotas is one of the means by which Member States can enable producers to manage the quota system more flexibly. It should be noted that such reallocation is permitted only within the national quota. The flexibility provided for in the Community legislation is necessary in order to offset the structural rigidity of the dairy quota system.

Approval of purchasers

43 and 44. Under the draft Regulation which is intended to replace Regulation (EEC) No 536/93 (see "Summary"), Member States may, if the provisions applicable are not complied with, withdraw approval from the purchaser or require the payment of a sum proportional to the volume of milk concerned and to the seriousness of the irregularity.

In addition to giving Member States a more important role to play as regards control measures and the sanctions they must provide for in order to ensure that the levy is duly collected, the draft Regulation also specifies the time allowed and the number of checks needed to verify, within a certain period, whether the arrangements applicable have been complied with by all those concerned.

Observations relating to direct sellers

45. The observation of the Court of Auditors points to an infringement of Community legislation, namely purchases of milk by non-approved operators (direct salesmen) who have an influence on the deliveries declared by the Member State.

The Member States concerned will, in the context of the clearance-of-accounts procedure, be asked whether rectifications have taken place and whether the procedure for updating the questionnaire has been followed.

Controls on purchasers and direct sellers

48. Scrutiny of audit reports is a key aspect of the missions conducted by the Clearance-of-accounts unit. Any shortcoming noted is the subject of discussions, comments, observations, recommendations and, where necessary, rectifications, the aim being to improve the system applicable.

49. See comment on point 46.

The Court of Auditors should note, however, that the transfer of quotas (direct sales/deliveries/direct sales) is provided for in the rules in force (Article 4(2) of Regulation No (EEC) 3950/92). An adjustment can always be made - provided the producer submits a duly justified request - even if it, in effect, results in non-payment of the additional levy.

The Commission will follow up on the cases of manipulation and misdeclaration mentioned by the Court.

51. The Member State concerned will, under the clearance-of-accounts procedure, be asked whether rectifications have been made and whether the procedures for updating declarations and for notifying irregularities (Regulation (EEC) No 595/91) have been followed. It is for OLAF to monitor the payment of rectifications.

Calculation and payment of the levy

52. The three Member States concerned will, under the clearance-of-accounts procedure, be asked whether rectifications have been made and whether the procedures for updating declarations and notifying irregularities (Regulation (EEC) No 595/91) have been followed. It is for OLAF to monitor the payment of rectifications.

53. The situation in Portugal is known to the Commission departments concerned. A mission by Clearance-of-accounts officials in January 2001 found no evidence of an improvement (see also point 39). No payment has been made by Portuguese producers. Accordingly, in order to ensure maximum protection of the interests of the EAGGF, it was decided to reduce the advances.

The Commission departments concerned will continue to keep a close watch on developments.

Declaration of the levy and accounting by the Commission

55. Reduction of advances is normally carried out in October/November following the end of the milk period. If the declaration due by 1 September is incomplete, absent or unreliable, no other data are available at that stage. Even if the figures communicated are unreliable the Commission has few other options. However, in the case of Italy (1999/2000 period), where the Commission considered the declaration of deliveries to be too low, it reduced advances on the basis of an extrapolation of the data for the preceding period.

57. The clearance-of-accounts procedure is used for closing the accounts for the periods concerned when the Member State has completed the checks provided for in Article 7(3) of Regulation (EEC) No 536/93 and has updated the data from the questionnaire (Article 8 of Regulation (EEC) No 536/93). It is only then that the data are expected to be definitive. The EAGGF Clearance-of-accounts unit has two options: to accept the data as they are, or carry out checks in Member States on the basis of a risk analysis. It is in particular thanks to controls by the national authorities and the Clearance-of-accounts unit that situations such as the one encountered in Italy were resolved, all this to the benefit of the EAGGF. In an ideal world all amounts would be paid to the EAGGF on time, every declaration would be correct and no rectification would be made once the checks had been carried out. Unfortunately this is not often the case.

58 and 59. If the questionnaire does not arrive on time (1 September), the Commission has to send a letter to the Member State concerned informing it of this fact and of the risk of advances being reduced and giving it time to react. In practice, the Member State invariably reacts by sending the questionnaire.

Where the difference between the data from the questionnaire and the actual figures is greater than 10 %, reducing advances is no longer an option, for the simple reason that this can be officially noted only in the context of the clearance of accounts, when advances can no longer be reduced.

This inapplicability stemmed from an inconsistency in the rules, which will be put right when Regulation (EEC) No 536/93 is amended (see "Summary" and points 43 and 44). The amendment will also deal with the other penalties and with interest for late payment.

MANAGEMENT OF THE QUOTA LEVELS

62 and 63. The further reduction of 3 % in the quota was no longer felt to be necessary since the situation had improved. Given that the levy overpenalises increases in fat content (an increase in the fat content in relation to the reference level results in an additional levy of 155 % of the target price, whereas there is simply a penalty of 115 % for exceeding the quota on volume alone); the increase reduces the overall quantity, particularly in terms of milk powder. For this reason, the trend has steadied and the percentage of fat is falling in certain cases. Reductions in the price of butter and milk powder are aimed at reducing intervention (and, therefore, at encouraging a search for new outlets) and not at limiting production. Given the volatile nature of world markets the Court's comparison of prices is valid for short periods only and precludes any long-term strategy. Moreover, many developed producer countries (the United States of America, Canada, Switzerland, Japan, Norway, etc.) guarantee their producers prices comparable with EU internal prices.

AGENDA 2000

64 to 66. The Agenda 2000 decisions should be seen in the light, on the one hand, of the political debate and, on the other, of the latest market forecasts. It should be noted that the Council has decided to accept the Commission's proposed 15 % reduction in prices. The Council has also accepted the principle of an increase in the quotas, but has decided on another allocation both between Member States and over a period of time. It has also decided to extend the period of validity by eight years instead of six as proposed by the Commission.

CONCLUSION

The quota regime

68 and 69. As the Commission sees it, fixing the quotas at a level which allows a balance to be achieved between, on the one hand, production and, on the other, consumption and non-subsidised exports would lead to a reduction in production of about 20 %. In its opinion this would result in a dismantling of production and, therefore, of processing capacity.

Flexibility in the management of the quotas was essential to enabling each producer to attain the reference level he could hope to achieve pursuant to the Council Regulation.

It is clear from the decisions of the Council that adjusting milk production to the level of internal consumption was neither a political nor an economic objective. The Community's relative share of international markets has fallen sharply since quotas were introduced, even on markets where it has traditionally been present.

The decision whether or not to fix national quotas for the applicant countries, the level of any such quotas, and the WTO negotiations are key factors in the future of the Community's dairy sector. No decision has thus far been taken.

Implementation of the scheme

70. In this context Commission departments have reduced advances in order to protect the financial interests of the Community and have carried out corrections in the clearance-of-accounts decisions in respect of any further levy due as well as for the interest for late payment of levy. The Commission also initiated infringement proceedings against Italy (reasoned opinion 97/2228), notably for failure to collect the levy.

The improvements in Greece and Spain are as a direct consequence of the rigorous approach adopted by the Commission departments - during and after their audit missions - by way of reductions in advances and clearance-of-accounts corrections for further amounts of levy due as well as for interest. The Commission also initiated infringement proceedings against Spain (reasoned opinion 97/2227) for incorrect application of the milk quota regime and failure to collect the levy. The Commission is extremely vigilant as regards a continued improvement in these two Member States. The Commission agrees with the Court that the fundamental purpose of the levy is to act as a deterrent against overproduction by individual producers.

Milk prices

72. If the reform of the dairy sector is to mirror that of the other sectors, milk intervention prices should be brought down to world market levels in the context of a liberalisation exercise. Consumers/taxpayers would thus pay a price close to the world market and would no longer pay the EUR 3 billion for the disposal of milk products on the external and internal markets. A fundamental reform of the market organisation for milk involving the liberalisation of production on the same lines as for the arable crops (cereals and oilseeds) sector would, however, entail a major cost to the budget, since bringing prices down to world levels would have to be compensated at producer level by means of direct aid. This cost to the budget could well replace much of the EUR 3 billion referred to by the Court as well as the current cost to the consumer based on the difference between prices on the internal and world markets. The Commission would point out that such expenditure cannot be financed within the budget limits applicable pursuant to the Berlin agreement and that consumers seldom benefit from reductions in production prices.

73.(a) - A possible transfer of quotas between Member States would bring into question the very basis of the rules on quotas as laid down in Council Regulation (EEC) No 3950/92 since the system is based on national quotas. See also "Summary".

- During its missions to Member States the Commission examines in detail the checks and sanctions in place; evaluation of the controls carried out by the Member State's control body is a key element of the mission. Any weaknesses found are the subject of discussion during the mission and written remarks and recommendations by official letter following the mission. In the course of the next mission to the Member State the Commission verifies whether the recommendations have been followed up, its aim being to improve the system in place.

- The draft Regulation on the detailed rules for the application of Regulation (EEC) No 3950/92 is in keeping with the Court's request (see also points 43 and 44).

- Apart from the fact that the levy is obviously not collected and paid in full before 1 September, no particular problems have been noted with regard to levy accounting in the Member States; generally speaking the levy is credited to the EAGGF very soon after being received by the paying agency. The Commission is aware that the interest is not always calculated and collected consistently by the Member States; this is why the Commission departments concerned scrupulously calculate and apply to the Member states an interest correction under the clearance-of-accounts procedure.

- To find out more about internal consumption and the degree of self-sufficiency of the Member States, the Commission is working on the harmonisation of the methods used to produce the information concerned.

73.(b) For the future, the Council is committed to carrying out a mid-term review in 2003 on the basis of a Commission report so that the current additional levy system can expire after 2006. The Council's conclusions in 2003 will be influenced by a number of factors, including the position adopted by the Member States, the content of the Commission report, which will also take account of budgetary aspects, consumers, producers, the processing industry, the environment, progress in the negotiations on enlargeme