115. The bias of the new U.S. analysis becomes apparent when applying these two sets of prices. When the FAPRI-projected prices are inputted into the U.S. planting decisions analysis, upland cotton is no longer the most attractive crop to plant in any year other than MY 2004.176 In other words, correcting solely for this single flaw in the U.S. analysis leads to the collapse of the U.S. assertion that "shifts in U.S. planted acreage were consistent with what one would expect."177 Given the absence of any evidence supporting the U.S. "basis" for upland cotton of $0.05 per pound, there is no basis for the compliance Panel to accept its use.
116. Another significant flaw in the U.S. planting decisions analysis concerns the manner in which the United States derives expected yields. The first error in the U.S. yield analysis is that the United States erroneously overstates expected yields by relying on yields per harvested acres178, whereas the planting decision analysis should be based on expected yields by planted acre.179 Correcting this error would reduce expected yields (and expected market returns) by an average 12 percent each year.180 117. The United States also improperly constructs yield projections based on a linear regression analysis of actual yields per harvested acre for MY 1995-2006.181 In other words, the United States derives projected yields for, e.g., MY 2003 taking into account information of actual yields in MY 2004-2005 and assuming that farmers fully anticipated the record high yields achieved in the MY 2004 and MY 2005.182 An examination of the annual USDA baselines released prior to the planting periods from MY 2002 through MY 2007 confirms that USDA did not project yields to increase to the extent that they did. Much less could U.S. upland cotton producers have made that projection.
Table 3 – USDA Yield Projections183
118. Table 3 shows that USDA projections of upland cotton yields in the upcoming marketing year were significantly less than actual yields achieved every year. Of course, it is impossible for farmers to predict both the weather and their yields. And it is unreasonable for the United States to now suppose that U.S. farmers, but not USDA, anticipated the dramatic increases in yield in MY 2004 and MY 2005. Table 3 also shows that the yields used by the United States in their planting decisions analysis significantly overstated the expectations of upland cotton farmers. The yields used by the United States in its analysis are, on average, 24 percent greater than USDA baseline projections. Correcting this flaw in the U.S. analysis, once again, invalidates the U.S. conclusions that "shifts in U.S. planted acreage were consistent with what one would expect."184
119. In sum, the new U.S. planting decision analysis is based on unsupported assertions that result in a biased and result-orientated conclusion to attempt to argue that mandatory and price-contingent subsidies constituting 40 percent of the market value of a basic commodity product have no effect on production. This analysis should be rejected by the compliance Panel.
120. As Brazil demonstrated in its own analysis, a proper assessment of U.S. upland cotton producers' plantings decisions demonstrates that, but for marketing loan and counter-cyclical subsidies, it would have been economically rational for them to switch to the production of alternative crops nearly every year.185 121. Finally, even assuming, arguendo, that the flawed U.S. analysis demonstrates that upland cotton farmers planting decisions move generally in the same direction as might be expected from market signals, the U.S. analysis fails to refute the original panel's basic finding that these subsidies "numb" U.S. producers reactions. The United States analysis does not demonstrate that the extent to which U.S. producers have changed upland cotton plantings is consistent with the extent to which U.S. upland cotton producers would have changed their plantings but for the subsidies.
122. The original panel found, and Brazil demonstrates with updated evidence, that upland cotton producers are numbed from market signals, not completely deadened. The elimination of subsidies that account for an average of 40 percent of the market value of upland cotton and cover an average of 29 percent of total costs over the life-time of the FSRI Act of 2002 would cause a significant shift of acreage to alternative uses now providing higher net returns. Brazil again recalls that the issue before the compliance Panel is not whether the general direction of U.S. planted acreage correlates with expected revenue from upland cotton and other crops. The issue before the compliance Panel is whether U.S. upland cotton acreage would be lower and world market price higher but for marketing loan and counter-cyclical subsidies. One relevant piece of evidence of the effects of these subsidies is the fact that their revenue-stabilizing effect numbs U.S. upland cotton producers' reactions to market price signals.
54. Could the United States explain whether, and, if so, why, it is of the view that this Panel should not rely on the findings and analysis by the original Panel regarding the effects of marketing loan and counter-cyclical payments on production and exports? Please comment in particular on paras. 7.1291, 7.1295, 7.1302, 7.1349, 7.1353 of the Panel Report. 123. In its response, the United States asks the compliance Panel to revisit the original panel's findings regarding marketing loan and counter-cyclical subsidies. These adopted findings should be followed by the compliance Panel. Prior adopted panel and Appellate Body reports create "legitimate expectations" among WTO Members, and should be taken into account by panels when they are relevant to the resolution of a dispute.186
124. This is particularly the case where particular issues and questions of fact before a panel are the same as those previously examined by the Appellate Body. In such a situation, it is "not only appropriate," but to "be expected," that the panel would follow the Appellate Body's earlier conclusions.187 With respect to compliance proceedings, in particular, the Appellate Body has stated that "Article 21.5 proceedings do not occur in isolation but are part of a 'continuum of events.'"188 The Appellate Body observed that "doubts could arise about the objective nature of an Article 21.5 panel's assessment if, on a specific issue, that panel were to deviate from the reasoning in the original panel report in the absence of any change in the underlying evidence."189 The compliance panel in U.S. – Gambling (21.5) noted that "[a] re-assessment in a compliance proceeding of an issue that had already been ruled upon in an original proceeding in an adopted report, even with better arguments by the respondent but without a change relevant to the underlying facts in the intervening period, would run counter to the prompt settlement of disputes."190 The United States is not entitled to re-litigate an issue that has been definitively resolved for purposes of this dispute.
125. As a factual matter, Brazil recalls that the evidence regarding the nature of marketing loan and counter-cyclical payments remains unchanged, that their magnitude in MY 2005 is even larger than the magnitude assessed by the original panel for MY 2002 and that the conditions of competition in the world market for upland cotton have not changed in any fundamental way since the original panel's assessment. Therefore, there is no basis of the United States to argue that the compliance Panel should disregard and/or overturn the findings of the original panel, as upheld by the Appellate Body. Brazil addresses the specific U.S. arguments raised in response to this question in the context of its comments on other U.S. responses. Specifically:
With respect to the U.S. arguments concerning the production effects of marketing loan subsidies191, Brazil refers to the compliance Panel to its comments on the U.S. response to question 53, above.
With respect to the issue of production effects from counter-cyclical payments supporting the production of upland cotton, Brazil refers the compliance Panel to its comments on the U.S. response to questions 53, above, and 56/57, below.192 With respect to the cost of production related issues raised by the United States in response to this question193, Brazil refers the compliance Panel to its comments on the U.S. response to question 59, below.
56. The United States has cited new empirical research on the production effects of counter-cyclical payments. How does the United States address Brazil's criticism that none of this research has dealt specifically with the effects of countercyclical payments under the FSRI Act of 2002 on upland cotton? (Rebuttal Submission of Brazil, para. 120)
57. The United States has offered the Lin and Dismukes (Exhibit US-34) and Westcott (US-35) studies as examples of new empirical research on the production effects of countercyclical payments.
a) Is itnotmore accurate tocharacterizetheLinandDismukesstudyasasimulationofthepossibleeffectofcountercyclicalpaymentsonproductionratherthanastudyontheactualimpactofthepaymentssinceitdoesnotstatisticallyestimatetheeffectoftheactualpayments(whichbeganonlyin2002)oncropproduction?(Pleaserefertopages9-12ofthepaperwhichdescribethedata, coveringtheperiod1991-2001, usedforthestudy).
b) HowdoestheUnitedStatesdealwithBrazil'scharacterizationoftheWestcottstudyasofferingnonewempiricalevidence, andinstead, beingaqualitativediscussion, muchlikethatpresentedtotheoriginalpanel(seepara128ofBrazil'srebuttal)?
126. Brazil provides below consolidated comments on the U.S. responses to questions 56 and 57.
127. The United States argues that since the original proceeding there "have been a number of studies conducted regarding the effects of the [counter-cyclical] program."194 This statement is not correct with respect to counter-cyclical payments for upland cotton. No empirical study has specifically examined the effect of counter-cyclical payments on upland cotton production and the United States has cited one empirical study on the effect of counter-cyclical payments generally.195 As noted by the compliance Panel in question 57(a), this study, by Lin and Dismukes, is a simulation of the possible effect of counter-cyclical payments on production, rather than a study on the actual impact of the subsidies. The dearth of studies, as implied by the compliance Panel's question, is due to the fact that the program is relatively new. However, the absence of specific studies does not constitute a basis for the United States to argue that Brazil has not met its burden of demonstrating that there remains a the strong positive link, found by the original panel, between counter-cyclical payments and the production of U.S. upland cotton.
128. The original panel found that counter-cyclical contributed to serious prejudice based on an examination of the structure, design and operation of the program.196 As Brazil explained, the few studies that have been conducted since then support the finding that counter-cyclical subsidies contribute to serious prejudice.197
129. As explained by Professor Sumner, there are at least five major mechanisms through which counter-cyclical payments have the potential to affect production.198 The study by Lin and Dismukes examined only two of these mechanisms.199 Beyond that, the study solely examined counter-cyclical subsidies for corn, wheat and soybeans in the Midwest. In its 2 April response to questions 64 and 65, Brazil provided a number of reasons why counter-cyclical subsidies for upland cotton would be expected to have significantly greater effects on production that counter-cyclical subsidies for these field crops in the Midwest.200 For convenience, Brazil lists these factors in the following chart, comparing counter-cyclical subsidies for upland cotton to counter-cyclical subsidies for the commonly studied field crops in the Midwest.
• Many regions plant corn and soybeans exclusively
• High supply elasticities
• Low supply elasticities
130. As demonstrated in Table 4, upland cotton counter-cyclical subsidies are larger and paid out far more frequently than counter-cyclical subsidies for major field crops in the Midwest. In addition, counter-cyclical subsidies cover a greater portion of upland cotton producers' costs of production then they do for soybeans, corn and wheat. It follows from these basic differences that the effect of counter-cyclical subsidies for upland cotton is greater than that for major field crops in the Midwest. The availability of substitute crops is another significant reason why counter-cyclical payments for upland cotton have a larger effect on acreage and production that they do for corn, wheat and soybeans. Upland cotton acreage can more readily switch to the production of other crops and, thus, has a higher elasticity of supply than soybeans, corn and wheat. The collective effect of these differences is to dramatically increase the ability of upland cotton counter-cyclical payments to reduce risks associated with price variability and ultimately, increase supply as compared with counter-cyclical payments for soybeans, corn and wheat.
131. For all these reasons, upland cotton counter-cyclical subsidies greatly reduce the risk of producing upland cotton. They do so, however, only when upland cotton is grown on upland cotton base, as only under this scenario is there the revenue stabilizing effect resulting from the combination of upland cotton market revenue and upland cotton price-contingent counter-cyclical subsidies. This is the reason that the vast majority of U.S. upland cotton is grown on upland cotton base.
132. The studies cited by the United States do not and can not address this crucial issue because the data on upland cotton base and upland cotton plantings is not available in the public domain.204 Yet, this information was available to the original panel, and the same data is available to the compliance Panel. Based on the data available to the original panel, it correctly rejected the United States attempt to argue that counter-cyclical payments were "decoupled" from production.205 Instead, it found a "strongly positive relationship"206 between historic upland cotton producers receiving upland cotton counter-cyclical subsidies and current upland cotton producers. It also found that these subsidies allowed U.S. producers to remain farming upland cotton because they were an important contributor to the total cost of production.207 None of the studies of counter-cyclical subsidies discuss such crucial data.
133. In response to this finding, the United States now claims that the fact that 96 percent of U.S. upland cotton is produced on farms with upland cotton base acres208 should not be surprising because upland cotton was grown historically, and continues to be grown today, on land particularly suited for upland cotton.209 Yet, this is precisely the basis for the original panel's finding that the high per-acre upland cotton counter-cyclical payments were connected with the current production of upland cotton.210 By this admission, the United States confirms that when Congress set very high per-acre payments for upland cotton base acres, it did so intending that the payments would be used to allow producers of upland cotton to cover their high costs of production. That is exactly what the National Cotton Council asked for prior to the FSRI Act of 2002.211 Congress would not provide counter-cyclical subsidies to historic cotton producers that are seven times higher per-acre than those for historic soybean producers if it thought that the upland cotton producers would grow soybeans.212
134. Thus, the structure, design and operation of the counter-cyclical subsidies is to specifically enable farmers that historically had planted high-cost upland cotton to continue to plant upland cotton. This is exactly what has happened. Almost all (96 percent) of U.S. upland cotton continues to be grown on farms with upland cotton base acres.213 These farmers know that the counter-cyclical subsidy will be paid if the price received by the U.S. producer falls below the target price of $0.724 per pound. And the average U.S. upland cotton farmer covered 10 percent of its total cost of production with counter-cyclical payments over the life-time of the FSRI Act of 2002.214 This evidence, not studies of counter-cyclical subsidies for other crops, demonstrates the linkage between U.S. counter-cyclical subsidies, upland cotton plantings, supply and world market prices.
58. The Unites States stated that the key consideration in assessing a farmer's decision to grow upland cotton is whether the farmer has been covering his variable costs of production. In this connection, it presented upland cotton costs and returns estimates for marketing years 1999-2005 (Exhibit US-47). Brazil has disputed the absence of certain items – land, labour and capital recovery costs - in the US calculations of variable costs. In response, the United States has referred to the Commodity Costs and Returns Estimation Handbook (Exhibit US-88) prepared by a Task Force of the American Agricultural Economics Association as the basis for leaving out these items in its calculations. However, the Task Force which authored the Handbook does not use the categories "fixed" or "variable" costs and in fact recommends that the microeconomic concepts of fixed and variable costs not be used in preparing and reporting cost and return estimates. Page 2-67 of the Handbook states:
The Task Force therefore recommends that costs should be categorized only as to whether they are associated with expendable factors or the services of capital assets. The division of costs into categories such as fixed and variable should generally be avoided in preparing CAR estimates. For the purpose of preparing CAR estimates for specific enterprises, the Task Force recommends that all the costs of all expendables be allocated to the generic group OPERATING COSTS and that all other costs be allocated to the group ALLOCATED OVERHEAD.
WouldtheUnitedStatesclarifywhetherthecategories "operatingcosts" and "allocatedoverhead" correspondtotheeconomicconceptsoffixedandvariablecosts?Inparticular, are "operatingcosts" variablecostsornot?WouldtheUnitedStatespleaseindicatewhether, andifso, where, theHandbookmakestheseclarificationsordistinctions.
135. Brazil welcomes the United States' acknowledgement that operating costs are distinct from variable costs.215 However, having done so, the United States continues to blur the distinction between the two. For example, the United States claims that "Brazil has attempted to include as 'variable' or 'operating' costs, costs that are not in fact 'expendable in a single defined period' including land, unpaid labor, and capital recovery costs."216
136. This statement is not consistent with the earlier U.S. acknowledgment217 that "operating costs" and "variable costs" are distinct economic concepts. Nor is it correct. To clarify, Brazil does not consider land, unpaid labor and capital recovery costs to be "operating costs". Brazil does, however, consider these costs to be wholly, or in part, "variable costs".218 Brazil's approach is entirely consistent with the approach detailed in the American Agricultural Economics Association ("AAEA") Handbook.
137. Brazil also welcomes the United States acknowledgment that "allocated overhead" differs from "fixed costs".219 The United States then criticizes Brazil's inclusion of fixed costs and/or imputed (or non-cash) cost as part total costs in its cost of production and planting decision analyses.220 Brazil responds to these arguments in its comments on the U.S. response to question 59, below, in which Brazil address comprehensively issues related cost of production and plantings decisions that the United States raised in its 2 April responses to questions.
59. In discussing the impact of long-term costs of production (and hence long-term profitability) of upland cotton production on farmers' decisions to exit cotton farming, the United States argues that income from other crops and off-farm income must be into account. Why does the United States consider these issues relevant given the original Panel's decision that "off farm income" is not a legally relevant consideration. (Panel Report, para. 7.1354, footnote 1470) Please respond to Brazil's arguments on this matter in paragraphs 249-253 of its Rebuttal Submission. 138. In response to a limited question by the compliance Panel concerning income from other crops and off-farm income, the United States launches into a lengthy discussion of farm bankruptcy.221 The United States response misses the point of the compliance Panel's question.
139. Contrary to the U.S. response, Brazil does not assert that the major issue before this compliance Panel is whether upland cotton farmers would exit farming altogether butfor marketing loan and counter-cyclical subsidies. Rather, the relevant question, as stated in question 59, is whether farmers would exit "cotton farming," that is, would they discontinue planting upland cotton. The evidence presented by Brazil demonstrates that a significant percentage of U.S. upland cotton farmers would exit the production of upland cotton.222 140. Throughout this proceeding, the United States, understandably, has sidestepped the $12.4 billion gap between upland cotton producers' total costs of production and market returns over the past seven years. U.S. arguments have shifted from highlighting the importance of whole-farm costs223, to relying on cost and return data in the high price year of MY 2003224, and finally, to attacking USDA's own cost of production data itself.225 Yet, none of these arguments individually or collectively explains how an industry that would have lost $12.4 billion without subsidies over the past seven years226 is economically viable.