JAPAN - TAXES ON ALCOHOLIC BEVERAGES
Document: Appellate Body Report and Panel Report Action by the Dispute Settlement Body On 1 November 1996, the Dispute Settlement Body adopted the attached Appellate Body report on "Japan - Taxes on Alcoholic Beverages (WT/DS8/AB/R, WT/DS10/AB/R, WT/DS11/AB/R) and the attached panel report on "Japan - Taxes on Alcoholic Beverages" (WT/DS8/R, WT/DS10/R, WT/DS11/R) as modified by the Appellate Body report. The panel report should therefore be read in conjunction with the Appellate Body report. In accordance with the Decision on Procedures for the Circulation and Derestriction of WTO Documents (WT/L/160/Rev.1) adopted by the General Council on 18 July 1996, the Appellate Body report was issued as an unrestricted document. The panel report which was issued as a restricted document has become a derestricted document in pursuance of the above-mentioned Decision.
Date: 8 November 1996
Document codes: WT/DS8/11; WT/DS10/11; WT/DS11/8; WT/DS8/AB/R; WT/DS10/AB/R; WT/DS11/AB/R; WT/DS8/R; WT/DS10/R; WT/DS11/R
Complainant: EU
Respondent: Japan
Dispute stage: Appellate Body
Agreements cited: Art. III:2  GATT 1994

JAPAN - TAXES ON ALCOHOLIC BEVERAGES

Appellate Body Report and Panel Report

Action by the Dispute Settlement Body

On 1 November 1996, the Dispute Settlement Body adopted the attached Appellate Body report
on " (, , ) and
the attached panel report on "" (, ,
) as modified by the Appellate Body report. The panel report should therefore be read
in conjunction with the Appellate Body report.

In accordance with the Decision on Procedures for the Circulation and Derestriction of WTO
Documents (WT/L/160/Rev.1) adopted by the General Council on 18 July 1996, the Appellate Body
report was issued as an unrestricted document. The panel report which was issued as a restricted
document has become a derestricted document in pursuance of the above-mentioned Decision.

Appellate Body

AB-1996-2

Report of the Appellate Body

APPELLATE BODY

 AB-1996-2

Japan, Appellant/Appellee Present:
United States, Appellant/Appellee

Lacarte-Mur6, Presiding Member

Canada, Appellee Bacchus, Member
European Communities, Appellee El-Naggar, Member
A. Introduction

Japan and the United States appeal from certain issues of law and legal interpretations in the
Panel Report, ’ (the "Panel Report"). That Panel (the "Panel")
was established to consider complaints by the European Communities, Canada and the United States
against Japan relating to the Japanese Liquor Tax Law (Shuzeiho), Law No. 6 of 1953 as amended

(the "Liquor Tax Law").*

The Panel Report was circulated to the Members of the World Trade Organization (the "WTO")

on 11 July 1996. It contains the following conclusions:

(i) Shochu and vodka are like products and Japan, by taxing the
latter in excess of the former, is in violation of its obligation
under Article III:2, first sentence, of the General Agreement
on Tariffs and Trade 1994.

'WT/DS8/R, WT/DS10/R, WT/DS11/R.
Norway originally reserved its right as a third party to the dispute but subsequently informed the Panel that it was
withdrawing its request to participate as a third party.

(ii) Shochu, whisky, brandy, rum, gin, genever, and liqueurs are
"directly competitive or substitutable products" and Japan, by
not taxing them similarly, is in violation of its obligation under
Article I11:2, second sentence, of the General Agreement on
Tariffs and Trade 1994.°

The Panel made the following recommendations:

7.2 The Panel recommends that the Dispute Settlement Body request
Japan to bring the Liquor Tax Law into conformity with its obligations
under the General Agreement on Tariffs and Trade 1994.4

On 8 August 1996, Japan notified the Dispute Settlement Body° of the WTO of its decision
to appeal certain issues of law covered in the Panel Report and legal interpretations developed by the
Panel, pursuant to paragraph 4 of Article 16 of the Understanding on Rules and Procedures Governing
the Settlement of Disputes (the "DSU") and filed a Notice of Appeal with the Appellate Body, pursuant
to Rule 20 of the Working Procedures for Appellate Review (the "Working Procedures").© On 19 August
1996, Japan filed an appellant’s submission.’ On 23 August 1996, the United States filed an appellant’s
submission pursuant to Rule 23(1) of the Working Procedures. The European Communities, Canada
and the United States submitted appellees’ submissions pursuant to Rule 22 of the Working Procedures,
on 2 September 1996. That same day, Japan submitted an appellee’s submission pursuant to Rule 23(3)

of the Working Procedures.

The oral hearing contemplated by Rule 27 of the Working Procedures was held on 9 September
1996. The participants presented their arguments and answered questions from the Division of the
Appellate Body hearing the appeal (the "Division"). The participants answered most of these questions
orally at the hearing. They answered some in writing.’ The Division gave each participant an

opportunity to respond to the written post-hearing memoranda of the other participants.°

Panel Report, para. 7.1.

“Panel Report, para. 7.2.

5WT/DS8/9, WT/DS10/9, WT/DS11/6.
°WT/AB/WP/1.

"Pursuant to Rule 21(1) of the Working Procedures.
§pursuant to Rule 28(1) of the Working Procedures.
*Pursuant to Rule 28(2) of the Working Procedures.

B. Arguments of Participants

1. Japan

Japan appeals from the Panel’s findings and conclusions, as well as from certain of the legal
interpretations developed by the Panel. Japan argues that the Panel erred in its interpretation of
Article IM1:2, first and second sentences of the General Agreement on Tariffs and Trade 1994 (the "GATT
1994"), which is an integral part of the Marrakesh Agreement Establishing the World Trade Organization
(the "WTO Agreement").'° According to Japan, with respect to both the first and second sentences
of Article III:2, the Panel erred in: (1) disregarding the need to determine whether the Liquor Tax
Law has the aim of affording protection to domestic production; (2) ignoring whether there is "linkage"
between the origin of products and the tax treatment they incur and, in this respect, not comparing
the tax treatment of domestic products as a whole and foreign products as a whole; and (3) not giving

proper weight to the tax/price ratio as a yardstick to compare the tax burdens.

With respect to the first sentence of Article III:2, Japan argues that the Panel erred by virtually
ignoring Article III:1, particularly the phrase "so as to afford protection to domestic production", as
part of the context of Article III:2. Japan maintains also that the title of Article III forms part of the
context of Article III:2, and that the object and purpose of the GATT 1994 and the WTO Agreement
as a whole must also be taken into account in interpreting Article III:2. Japan argues that the
interpretation of Article III:2, first sentence, in the light of these considerations, requires anexamination
of both the aim and the effect of the measure in question. Japan also alleges that the Panel erred in
placing excessive emphasis on tariff classification in finding that shochu and vodka are "like products"
within the meaning of Article III:2, first sentence, arguing that the relevant tariff bindings indicate

that these products are not "like".

With respect to the second sentence of Article III:2, Japan asserts that the Panel erred by failing
to interpret correctly the principle of Article III: 1, in particular, the language "so as to afford protection
to domestic production", erroneously placing excessive emphasis on the phrase "not similarly taxed"
in the Interpretative Note Ad Article III:2. Japan claims further that the Panel erred by failing to examine

the issue of de minimis differences in the light of the principle of "so as to afford protection to domestic

Done at Marrakesh, Morocco, 15 April 1994 and entered into effect on 1 January 1995.

production"; the Panel examined the issue of de minimis differences only by comparing taxes in terms

of taxation per kilolitre of product and taxation per degree of alcohol.

With respect to the points of appeal raised by the United States in its appellant’s submission,
Japan responds that the arguments advanced by the United States are not based on a correct understanding
of the Japanese liquor tax system. Japan argues that the Liquor Tax Law has the legitimate policy
purpose of ensuring neutrality and equity, particularly horizontal equity, and that it has neither the
aim nor the effect of protecting domestic production. Japan asserts that it is not correct to conclude
that all distilled liquors are "like products" under Article III:2, first sentence, or to conclude that the
Liquor Tax Law is inconsistent with Article III:2 because it imposes a tax on imported distilled liquors

in excess of the tax on like domestic products.

2. United States

The United States supports the Panel’s overall conclusions, but appeals nonetheless. The United
States alleges several errors in the findings of the Panel and the legal interpretations developed by the
Panel in reaching its conclusions in the Panel Report. The United States maintains that the Panel erred
in its interpretation of Article III:2, first and second sentences, principally as a result of an erroneous
understanding of the relationship between Article III:2 and Article III:1. The United States contends
that the Panel disregarded Article III:1, which the United States sees as an integral part of the context
that must be considered in interpreting Article III:2, and Article III generally. The United States asserts
that Article III:1 sets out the object and purpose of Article III and must therefore be considered in
any interpretation of the text of Article III:2. The United States argues that the Panel did not look
beyond the text of Article III:2 in interpreting Article III:2 and thereby fell into error.

More specifically, with respect to the first sentence of Article III:2, the United States submits
that the Panel erred in finding that "likeness" can be determined purely on the basis of physical
characteristics, consumer uses and tariff classification without considering also the context and purpose
of Article III, as set out in Article III:1, and without considering, in particular, whether regulatory
distinctions are made, in the language of Article III:1, "so as to afford protection to domestic production".
The United States concludes that the Panel erred in its interpretation of Article III:2, first sentence

in: failing to interpret Article III:2, first sentence, in the light of Article III:1, consistently with the

analysis in United States - Measures Affecting Alcoholic and Malt Beverages ("Malt Beverages");"'
not finding that all distilled spirits constitute "like products" under Article III:2, first sentence; and

drawing a connection between national treatment obligations and tariff bindings.

With respect to the second sentence of Article III:2 and the Ad Article thereto, the United States
argues that the Panel erred with respect to the Ad Article to the second sentence in its interpretation
of the term "directly competitive or substitutable products” by not considering whether a tax distinction
is applied "in a manner contrary to the principles set forth in paragraph 1 of [Article III]", that is,
"so as to afford protection to domestic production". The United States also claims that the Panel erred
by using cross-price elasticity as the "decisive criterion" for whether products are "directly competitive

or substitutable”.

The United States contends as well that the Panel erred in not addressing the full scope of the
products subject to the dispute and that there is inconsistency between the Panel’s conclusions in
paragraph 7.1(ii) of the Panel Report and in paragraphs 6.32-6.33 of the Panel Report. The United
States further submits that the Panel erred in incorrectly assessing the relationship between Article III:2

and Article III:4 by stating that the product coverage of the two provisions is not identical.

Finally, the United States claims that the Panel erred in incorrectly characterizing adopted panel
reports as "subsequent practice" within the meaning of Article 31(3)(b) of the Vienna Convention on
the Law of Treaties (the "Vienna Convention").'"? According to the United States, adopted panel reports
serve only to clarify, for the purposes of the particular dispute, the application of the rights and
obligations of the parties to that dispute to the precise set of circumstances at that time. The decision
to adopt a panel report constitutes a "decision" within the meaning of paragraph 1(b)(iv) of the language
incorporating the GATT 1994 into the WTO Agreement, however, the adopted panel report as such

does not constitute a "decision" in this sense.

With respect to the claims of error raised in Japan’s appellant’s submission, the United States
responds that: the national treatment provisions in Article III of GATT 1994 can apply to origin-neutral

measures; Japan’s taxation under the Liquor Tax Law does have the aim and effect of affording protection

"Panel Report adopted on 19 June 1992, BISD 39S/206.
293 May 1969, 1155 U.N.T.S. 331; 8 International Legal Materials 679.

to domestic production; and the tax/price ratios cited by Japan are not the appropriate basis for evaluating

the consistency of taxation under the Liquor Tax Law with Article III:2.

3, European Communities

The European Communities support the Panel’s conclusions, and largely agree with the legal
interpretations of Article III:2, first and second sentences, employed by the Panel. With respect to
Article III:2, first sentence, the European Communities submit that the Panel’s reasons for adopting
the interpretation in the Panel Report, and thus for rejecting a specific test of "aims and effects", are
sound and "in accordance with customary rules of interpretation of public international law", as
contemplated by Article 3.2 of the DSU." The European Communities contend that the Panel made
it clear that the essential criterion for a "like product" determination is similarity of physical
characteristics and that tariff nomenclatures may be relevant for a determination of "likeness" because
they constitute an objective classification of products according to their physical characteristics. The
European Communities maintain that the Panel’s decision to identify only vodka and shochu as "like
products" for purposes of Article I1:2 cannot be regarded as arbitrary or insufficiently motivated.
Although not entirely satisfied with the Panel’s conclusions on the range of products found to be "like"
under Article III:2, first sentence, the European Communities claim that those conclusions primarily
involve the assessment of facts and, therefore, are not reviewable by the Appellate Body, which is

limited to the consideration of issues of law under Article 17.6 of the DSU."

With respect to Article III:2, second sentence, the European Communities argue that the Panel
did not rule that cross-price elasticity is the decisive criterion for a determination that two products
are directly competitive or substitutable, but rather ruled that such elasticity is only one of the criteria
to be considered. The European Communities view the Panel’s findings on the issue of the tax/price

ratios as factual; however, if the Appellate Body nevertheless considers it necessary to rule on this

Barticle 3.2 of the DSU states in pertinent part:

... The Members recognize that [the dispute settlement system] serves to preserve the
tights and obligations of Members under the covered agreements, and to clarify the
existing provisions of those agreements in accordance with customary rules of
interpretation of public international law.

“Article 17.6 of the DSU states:

An appeal shall be limited to issues of law covered in the panel report and legal
interpretations developed by the panel.

issue, the European Communities argue that tax/price ratios are not the most appropriate yardstick
for comparing tax burdens imposed by a system of specific taxes. The European Communities submit
further that the Panel was correct in ignoring the linkage between differences in taxation and the origin
of products. The European Communities assert that Japan’s argument that the Liquor Tax Law is not
applied "so as to afford protection to domestic production" of shochu because shochu is also produced
in other countries and, therefore, is not an "inherently domestic product" rests on two wrong
propositions: first, that "domestic production" of shochu is not "protected" if the same tax treatment
is accorded to foreign shochu; and, second, that the mere fact that shochu is produced in third countries
is sufficient to conclude that foreign shochu may benefit from the lower tax as much as domestic shochu
and, consequently, that protection is not afforded only to domestic production. The European
Communities further contend that the United States is incorrect to attribute to the Panel the statement

that the product coverage of Article III:2 and Article III:4 is not equivalent.

With respect to the status of adopted panel reports, the European Communities conclude that
the Panel’s characterization of them as "subsequent practice in a specific case" is intrinsically
contradictory, since the essence of subsequent practice is that it consists of a large number of legally
relevant events and pronouncements. The European Communities’ view is that one adopted panel report
"would merely constitute part ofa wall of the house that constitutes subsequent practice". The European
Communities, therefore, ask the Appellate Body to modify the Panel’s legal terminology on this issue.
The European Communities further consider that the decision to adopt a panel report constitutes a
"decision" within the meaning of paragraph 1(b)(iv) of the language of Annex 1A incorporating the
GATT 1994 into the WTO Agreement, however an adopted panel report is not itself a "decision" in

this sense.

4, Canada

Canada confined its submissions and arguments on appeal to Article III:2, second sentence.
Canada supports the Panel’s legal interpretations of Article III:2, second sentence, as well as the
conclusion of the Panel that the Liquor Tax Law is inconsistent with Article III:2, second sentence.
Canada claims that the Panel properly found that the phrase "so as to afford protection" in Article III:1
does not require a consideration of both the aim and effect of a measure to determine whether that
measure affords protection to domestic production. Canada argues further that: first, the Panel Report

did not create a per se test in Article III:2, second sentence, and did not equate the reference to "so

as to afford protection to domestic production" with a determination that directly competitive or
substitutable products are "not similarly taxed"; second, the Panel had sufficient evidence before it
to conclude that differential tax treatment under the Liquor Tax Law favours domestic shochu production;
third, the Panel Report considered in detail the issue of the tax/price ratios and assigned them their
proper weight in assessing the tax burden on the products in dispute; and, finally, the Panel interpreted
the phrase "directly competitive or substitutable" properly and did not identify "cross-price elasticity"

as the decisive criterion for assessment of whether products are directly competitive or substitutable.

With regard to the status of adopted panel reports, Canada argues that decisions to adopt panel
reports under GATT 1947 constitute "decisions" under Article 1(b)(iv) of the GATT 1994.

C. Issues Raised in the Appeal

The appellants, Japan and the United States, have raised the following issues in this appeal:

1. Japan

(a) whether the Panel erred in failing to interpret Article I1I:2, first and second

sentences, in the light of Article TII:1;

(b) whether the Panel erred in rejecting an "aim-and-effect" test in establishing
whether the Liquor Tax Law is applied "so as to afford protection to domestic

production";

(c) whether the Panel erred in failing to examine the effect of affording protection
to domestic production from the perspective of the linkage between the origin

of products and their treatment under the Liquor Tax Law;

(d) whether the Panel failed to give proper weight to tax/price ratios as a yardstick

for comparing tax burdens under Article III:2, first and second sentences;