FINAL REPORT OF THE PANEL UNDER CHAPTER 18 OF THE CANADA-UNITED STATES FREE TRADE AGREEMENT

(ii) Article III.1

5.19 Canada also argues that the interpretation and application of the PMO and Regulations 5 and 138 by Puerto Rico authorities is a violation of Article III:1. Article III:1 provides that domestic laws and regulations should not be applied in a manner designed to favour domestic production. Canada submits that Puerto Rico authorities have interpreted and applied the PMO and the implementing regulations in a manner which has had the effect of promoting the production of UHT milk by INDULAC, a local state supported company in Puerto Rico and by other American producers from other states.

5.20 Surprisingly, for so central an article, Article III:1 has been examined by only four GATT panels, one of them very early in the history of the GATT and two very recently.¹⁰³ The paragraph requires that domestic measures "...should not be applied to imported or domestic products so as to afford protection to domestic production." This language is broad enough on its face to encompass both measures specifically designed to afford protection and those which have that effect. But no panel has been faced with the application of this paragraph to new production standards and for the reasons set out above this Panel finds it preferable to make its determinations on the basis of the specific provisions of the FTA, rather than upon the basis of more abstract general principle.¹⁰⁴

5.21 For this reason the Panel abstains from making any determination based upon GATT Article III:1.

5.22 The decision not to make a determination regarding GATT Article III does not, of course, mean that the national treatment principle does not apply to technical standards.

(d) FTA Article 703

5.23 Canada argues that the Puerto Rico measures are inconsistent with FTA Article 703. This Article states, in very general terms, the overall objective of Canada and the United States insofar as market access for agricultural goods is concerned. Article 703 reads as follows:

There is clearly no hard obligation involved in the language of this provision; it does not require that any specific action be taken by one or other of the Parties. Indeed, by stating that "they shall work together", it implies that the obligation involved is one that requires joint action by the two Parties. It is, in essence, a "best efforts" type of obligation, the observance of which is fundamentally a matter of acting in good faith. It is more than a general declaration of goals in a preamble, but less than a strict duty to do something specific. Unless a Party deliberately and systematically acts so as to block further progress in the elimination or reduction of import barriers - in bad faith in other words - it should not be found acting contrary to such a duty for the sole reason that it refuses an undertaking unsatisfactory to itself.¹⁰⁵

5.24 Canada does not suggest that the United States has acted in bad faith. Canada stated that the Puerto Rico regulations, "by effectively creating a new import barrier to Québec UHT milk where none existed before, run directly contrary to the obligations imposed by Article 703". This is an interpretation of the obligation involved in that provision that clearly goes beyond a "best efforts" undertaking. On the basis of this interpretation, Canada concludes that there exists a specific obligation regarding health and safety regulations in food and agricultural goods, a proposition that is all the more surprising as such questions are specifically dealt with in Article 708. The Panel, therefore, cannot accept Canada's argument based on Article 703 of the FTA.

(e) FTA Articles 708 and 710.

5.25 Canada further argues that the Puerto Rico measures are inconsistent with Articles 708.1, 708.2 and Schedule 11 of Annex 708.1 of the FTA. These provisions of Chapter 7, which deal with health and safety regulations in the agricultural and food sectors, build upon what Article 710 describes as the rights and obligations retained by the Parties "with respect to agricultural, food, beverage and certain related goods under the GATT and agreements negotiated under the GATT". Apart from such provisions of the General Agreement as Articles III and XI, whose bearing on the subject has been examined above, the only other rights and obligations Canada and the United States have commonly assumed insofar as concerns health and safety regulations in the agricultural and food sectors are those of the GATT Code on Technical Barriers to Trade (the Standards Code).¹⁰⁶ Since neither Canada nor the United States have made specific reference to the Standards Code in their briefs¹⁰⁷ the Panel will abstain from looking at the compatibility of the Puerto Rico regulations with the Standards Code.

5.26 In dealing with Article 708 of the FTA, the Panel will consider separately paragraph 1, paragraph 2 and Schedule 11 to Annex 708.1. Paragraph 1 of Article 708 is concerned with the general process of implementing an open border policy with respect to trade in agricultural and food goods and addresses the harmonization of norms and recognition of equivalence. Paragraph 2 of Article 708 deals with other aspects of that process, the most important one being the elimination of regulations and standards that constitute or would constitute "an arbitrary, unjustifiable or disguised restriction on bilateral trade". Schedule 11 to Annex 708.1 finally deals with two particular aspects of trade in dairy products, that is inspection systems and laboratory systems.

(i) Article 708.1

5.27 The first paragraph of Article 708, as both Canada and the United States recognize, attempts to balance the legitimate need for technical regulations and standards to protect human, animal and plant life with the need to facilitate commerce between the Parties.¹⁰⁸ It states that the Parties "shall seek an open border policy with respect to trade in agricultural, food, beverage and certain related goods and shall be guided in the regulation of such goods and in the implementation of Article 708 and the Schedules contained in Annex 708.1" by a set of five principles which it then sets out. Two of these principles are particularly pertinent in the present case, those set out in subparagraphs (a) and (c)¹⁰⁹. The first principle is as follows:

The second principle is:

Where they speak of the Parties making "equivalent their respective technical regulatory requirements and inspection procedures" and establishing "equivalent accreditation procedures", such guiding principles are to be interpreted in the light of the definition of "equivalent" given in Article 711 ("equivalent means having the same effect"). The interpretation and application of the principles must be consistent with the definition of equivalent.

5.28 The language of Article 708.1 makes it clear that the undertaking to seek an open border policy is not to be interpreted as an obligation of result. The use of words such as "shall seek" indicates that an effort in good faith to attain the objective in question is all that is required. No time limit is involved. If the Parties had wanted to go beyond such a "best efforts" obligation, they could easily have used other words such as "shall realize" coupled with some time limit or "shall maintain", or they could have formulated the principles in terms of strict obligations. However, this "best efforts" undertaking does not mean that the Parties are free to do whatever they want under Article 708.1. They have a duty to act in good faith, which is generally interpreted in international law to mean that no actions should be taken that would make the achievement of the undertaking impossible.

5.29 In order for the Panel to find a violation of Article 708.1, therefore, Canada must demonstrate that the United States has acted in such a way as to make the fulfilment of the "best efforts" undertaking of Article 708.1 impossible. Canada argues that the refusal of the authorities of Puerto Rico and the United States to carry out, in a timely fashion, an equivalency study to confirm that Québec's standards respecting the production process and final product of UHT are "substantially equivalent" to those set out in the PMO and to those in Regulations 5 and 138, violated FTA Article 708.1(a)¹¹⁰. If this argument is intended to mean that the United States has acted in a manner inconsistent with Article 708.1 because it did not carry out in time the equivalence study in question, the Panel has no choice but to reject it. To accept this argument would mean that Article 708.1 goes further than simply setting up a process for the gradual realization of an open border policy, but that it incorporates an obligation of result within a given period of time. For the reasons set out above, this is an interpretation of Article 708.1(a) that the Panel cannot accept.

5.30 If, however, the Canadian argument is that the United States, by systematically refusing to adopt the interpretation of equivalence given in Article 711, has placed itself in a situation where it could not claim to be guided by the principles of Article 708.1(a), then a different situation arises. For such a line of argument to succeed, Canada would have to prove that the United States has acted in bad faith. In the present instance, however, the United States has recognized in the Katz's letters, and repeated in its submissions, before this Panel, that it "recognizes that the concept of "equivalence" as defined in Article 711 encompasses situations where Canada's standards and/or inspection regime, while not 'identical' to the PMO, have the "same effect"¹¹¹. Even if this explicit recognition of the pertinence of Article 711 in the present matter came at a relatively late stage, the Panel cannot accept that the United States has acted in bad faith. Taking into consideration the fact that Article 708.1(a) essentially sets up a process of harmonization of health and safety regulations, or of recognition of equivalence - a process whose duration is not defined and which obviously involves negotiation between the Parties - and taking into consideration also the position of the United States reflected in the Katz's letters, the Panel finds that the United States has not acted in a manner inconsistent with its obligations under Article 708.1(a).¹¹²

5.31 Canada also argues that under Article 708.1(c), "the Parties are entitled to establish and maintain their own accreditation procedures and that each Party would recognize the validity of the other's accreditation procedures"¹¹³. In view of Puerto Rico's insistence that only FDA-certified inspectors be used to rate UHT milk from Québec, Canada concludes that such behaviour is inconsistent with the principle in FTA Article 708.1(c). This argument is a reformulation, in a slightly different way and different context, of the previous argument concerning Article 708.1(a). Canada argues that the insistence on using FDA-certified inspectors was fundamentally incompatible with the acceptance of the principle set out in Article 708.1(c), and constituted therefore a violation of the "best efforts" undertaking of the United States under Article 708.1. Since this article also involves a ''best efforts'' obligation, the Panel cannot accept this argument. For the same reasons as were given with regard to Article 708.1(a), the Panel does not find that the United States has acted in a manner that is inconsistent with its obligation under Article 708.1(c).

(ii) Article 708.2

5.32 FTA Article 708.2 (a) requires the Parties inter alia, to prevent the introduction of new technical regulations that constitute an arbitrary, unjustifiable or disguised restriction on Canada-U.S. bilateral trade. It provides as follows:

The language used in sub-paragraph (a) indicates a level of obligation that goes beyond a ''best efforts'' obligation. However, the French version of this provision reads somewhat differently. Sub-paragraph a) provides as follows:

In this French version, the use of the expression "s'attacheront" to cover both existing and future technical regulations and standards appears to suggest in the case of future technical regulations and standards a level of obligation that is less imperative than is the case in the English version.

5.33 In answer to a written question from the Panel on that discrepancy, the United States argued that this "supports the U.S. interpretation of Article 708 as imposing essentially a 'best efforts' obligation''¹¹⁴. Canada, for its part, has answered that "[T]he French text mirrors the English in the mandatory nature of the obligation agreed to by the Parties"¹¹⁵. This conflicting view on the level of obligation involved in Article 708.2 is a preliminary question that must be clarified by the Panel.

5.34 The Panel is aware that the negotiations leading to the FTA were conducted exclusively in English and that the text eventually adopted was originally written in English. But confronted with two equally authentic versions of the text, the Panel considers that this is not a sufficient reason to conclude as to the superiority of one version over the other. Such a solution was explicitly rejected by the International Law Commission in its preparatory work for the Vienna Convention on the Law of Treaties. Article 33 of the Vienna Convention on the Law of Treaties, which follows the conclusions of the International Law Commission on the subject of the interpretation of multilingual treaties, states:

Article 31 states that the starting point of interpretation should be the "ordinary meaning to be given to the terms of the treaty in their context and in the light of its object and purpose". In the present instance, the distinction that is made in the English version between the "best efforts" obligation to eliminate existing arbitrary, unjustifiable or disguised restrictions and the imperative duty to prevent the introduction of such restrictions in the future appears in line with a technique commonly used in trade agreements, and repeatedly used in the FTA itself, whereby certain actions are prohibited in the future but are the subject of a "best efforts" obligation if they have already taken place. The French version, on the other hand, leads to a situation where the Parties undertake to work towards the non-introduction of arbitrary, unjustifiable or disguised restrictions on bilateral trade, an undertaking which makes little sense and would certainly be a step back when compared to the prescription of Article XX of GATT or to the commitments made in the GATT Code on Technical Barriers to Trade. For these reasons, the Panel considers that the English version must prevail and that Article 708.2(a) does indeed prohibit the introduction of arbitrary, unjustifiable or disguised restrictions on bilateral trade.¹¹⁶

5.35 Canada argues that the Puerto Rico measures were adopted after the FTA came into force and are hence new technical regulations and governmental standards. Canada attacks not the PMO and the implementing regulations but the manner in which they were interpreted and applied. Canada alleges that the manner of their interpretation and application was inconsistent with Article 708.2 because this led to a situation where a product was excluded for health and safety reasons, without any explanation and without offering Lactel a genuine opportunity of demonstrating that its UHT milk was produced under standards having the same effect as the PMO. This, according to Canada, constitutes an arbitrary and unjustifiable restriction on bilateral trade. The United States responds to this argument by pointing out that nothing in the FTA prevents a government from upgrading its standards and that if the Canadian products do not meet these new standards, this does not mean that they are arbitrary or unjustifiable or a disguised restriction on bilateral trade¹¹⁷.

5.36 In its Supplementary Submission, Canada argues that the United States has an obligation in good faith to justify its interpretation and application of the PMO, given the prima facie case it has made that UHT milk from Québec is safe and is produced under conditions at least as stringent as those contained in the Puerto Rico regulations themselves. According to Canada, a ''reasonable, good faith interpretation of Article 708.2 would require that once the complaining party has made a prima facie case that the introduction of the new measure constitutes an arbitrary, unjustifiable or disguised restriction on trade, the Party that has introduced the measure must justify its action''¹¹⁸. In its Supplemental Submission, the United States points out that Canadian legislation requires that imported products from the United States and other foreign sources meet highly specific process and inspection requirements which are directly analogous to those imposed by Puerto Rico, and that in consequence it could hardly be deemed arbitrary or unjustifiable for Puerto Rico to require that UHT milk from Québec be rated under a system paralleling Québec's own inspection and enforcement system¹¹⁹.

5.37 Canada points out that UHT milk from Québec was imported and distributed in Puerto Rico for 14 years (to which was later added the fact that it was still being imported in Puerto Rico by the U.S. Army up to March 2, 1993). These facts are by and large admitted by the United States. The real problem has to do with their legal significance. In the view of the Panel, they cannot in themselves justify a conclusion that Puerto Rico's introduction of the PMO as such arbitrarily and unjustifiably restricted bilateral trade, but they do justify a fuller examination of the introduction, interpretation and application of these regulations.

5.38 Canada alleges that Puerto Rico's interpretation of the PMO was such as to make it impossible for Lactel to comply with the requirement that its UHT milk be rated by an FDA-certified Rating Officer as being produced under ''substantially similar'' regulations. The evidence on record indicates that shortly after Puerto Rico introduced the new regulations in January 1991, Lactel's local distributor was advised that Québec UHT milk did not meet the requirements of these regulations and that, as a consequence, its license would be cancelled effective July 1, 1991.

5.39 In January 1991, Lactel's attorney's sought guidance from the FDA, representing that Québec UHT milk qualified for entry into Puerto Rico under Section 11 of the PMO, which authorizes the sale of milk produced outside ''routine official supervision'' if it is processed under conditions ''substantially equivalent''. In its response dated January 9, 1991, the FDA stated that the decision to allow the entry of imported milk rested with Puerto Rico; accordingly, the FDA could not rule on ''substantial equivalency'' under Section 11 of the PMO, since the decision was Puerto Rico's.¹²⁰ On February 27, 1991, Canadian Ambassador Burney wrote to FDA Commissioner Kessler to propose that the FDA certify Canadian officials to conduct inspections to certify Lactel's compliance with the PMO and Procedures.¹²¹

5.40 On March 4, 1991, a meeting of the FTA Technical Working Group explored solutions that would allow Lactel to retain its license to sell UHT milk in Puerto Rico. One suggestion was for Canada or Québec in effect to join the NCIMS and implement the PMO and Procedures. Another suggestion was that Lactel request a waiver from Puerto Rico of the requirement that the milk be from a NCIMS processing state. There was a further suggestion that Canada or Québec approach a northern U.S. state to have its certified personnel carry out the inspections and ratings required under the PMO procedures, under what became known as the "Vermont Option". On June 20, 1991, the FDA formally responded to the letter of Ambassador Burney of February 1991. It did not address the Canadian request for an equivalency study and rejected the request for certification of Québec milk inspectors.

5.41 On July 1, 1991, the Puerto Rico Department of Health informed Lactel that Québec UHT milk was not produced under the conditions of the PMO and therefore did not meet the requirements for sale in Puerto Rico. But Lactel's license was extended for six months to December 31, 1991, to provide time for a way to be found to meet Puerto Rico's requirements.

5.42 The issue of equivalency of the Puerto Rico and Québec milk regulatory systems was discussed at the FTA Technical Working Group Meeting of March 4, 1991, and a UHT Sub-committee of this group met on March 5, July 15-16, and October 1-2, 1991 to work toward an equivalency determination. These efforts did not progress to such a determination, not even to agreement on the terms of reference for an equivalency study, by the time the six-month extension expired.

5.43 In his letter of December 31, 1991, the Governor of Puerto Rico rejected a request made by the Government of Canada on behalf of Lactel that the waiver it had granted be extended. His letter expresses the view that opportunities had been provided for finding a way by which Lactel's UHT milk could comply with Puerto Rico's regulations, in particular in April 1991, which Canada had not taken up. The Governor also stated that the Government of the Commonwealth of Puerto Rico was not convinced that a meaningful equivalency exercise resulting in expanded two-way trade in fluid milk could be completed by late 1992. Since December 31, 1991, Lactel's UHT milk has been excluded from Puerto Rico.

To Continue with Article 708.2

¹⁰³ Uruguayan Recourse to Article XXIII, GATT, BISD 11S/95; EEC - Measures on Animal Feed Proteins,GATT,BISD 25S/49; Canada-Import, Distribution and Sale of Alcoholic Drinks by Canadian Provincial Marketing Agencies,GATT, BISD 35S/37; US - Measures Affecting Alcoholic and Malt Beverages, GATT Doc DS23/R, 16 March 1992 (Not yet adopted by the GATT Council).

¹⁰⁴ One Panelist dissociates himself from the interpretation of GATT Article III:1 in the third sentence of this paragraph and the reference to "new production standards" in the fourth sentence. In his view, they are not directly related to the findings of the Panel.

¹⁰⁵ Tacna-Arica Arbitration, 2 R.I.I.A., 921 at 929-930. 

¹⁰⁶ GATT BISD 26S/205

¹⁰⁷ In answer to a question regarding the relationship between the GATT Code on Technical Barriers to Trade and the FTA, Canada, in its oral presentation, suggested that the provisions of Chapter 7 of the FTA, relating to standards, were more precise and went further than the Standards Code, particularly with regard to the definition of equivalence.

¹⁰⁸ Canada's First Submission, p. 28 and United States' First Submission, p. 33.

¹⁰⁹ The other principles deal with quarantine restrictions, the establishment of reciprocal training programs and the use, where possible, of common data and information requirements.

¹¹⁰ Canada's First Submission, para. 81.

¹¹¹ United States Supplemental Submission, para. 5.

¹¹² While concurring on the finding of para. 5.30 that the United States has not acted in a manner inconsistent with its obligations under FTA Article 708.1(a), one Panelist does not agree with the hypothetical discussion which appears to raise the definition of equivalence and the principles above the level of ''best efforts'' which characterizes the substantive provisions. 

¹¹³ Canada's First Submission, para. 81.

¹¹⁴ United States Supplemental Submission, p. 20.

¹¹⁵ Canada's Supplementary Submission, p.8.

¹¹⁶ One Panelist dissents from the interpretation in para. 5.34 that FTA Article 708.2(a) constitutes more than a ''best efforts'' obligation regarding the introduction of regulations and standards. While there is a lack of clarity in the drafting and some apparent confusion between the English and French versions, the Panel did not in the view of this panelist, have enough evidence from the material before it to determine the intent of the parties. In view of the ambiguity of the article 708.2(a) language and the lack of evidence about the intent of the Parties, he cannot support the majority conclusion that the Article ''does indeed prohibit the introduction of arbitrary, unjustifiable or disguised restrictions on bilateral trade''. 

¹¹⁷ United States First Submission, paras. 169-170.

¹¹⁸ Canada's Supplementary Submission, para. 36.

¹¹⁹ United States Supplemental Submission, para. 37.

¹²⁰ Canada's First Submission, Canadian Exhibit ''M'': United States First Submission, para. 61.

¹²¹ United States First Submission, para. 63.