It might be different in Victoria, but in NSW you can contest the "dangerous dog" restrictions. I used to work in local government here and there was a lot of stuff to go through before a dog can actually be declared dangerous so I don't know how they have done it to your dog so quickly? Again it might be different from state to state though...

I would write a letter to your local council explaining your side of the story. I would also be telling them the steps you are going to take to ensure something like this doesn't happen again. Fair enough for the chook owner to reinforce his side of the fence, but you need to do the same as well to make sure your dog can't dig out of your yard, and if she is going to continue to do it then you may need to consider that she needs to be caged/chained up when she isn't under supervision. Do you have a vet and/or any friends that can write a reference for your dog? It might not help at all but I guess it is worth a try.

The number of chooks allowed may differ between council areas, so I would give your local council a call tomorrow and find out. I know here there are no restrictions on numbers just as long as they don't cause noise/odour issues.