Tariff evasion and rules of origin violations under the Canada-U.S. Free Trade Agreement

Using product-level data on trade between Canada and the U.S., this paper presents evidence of tariff evasion and violation of the rules of origin occurring under the Canada-U.S. Free Trade Agreement (CUSFTA). It shows that more imports go unreported at the destination country when tariffs are higher. Consistent with the tariff evasion hypothesis, this result implies that the trade creation effect of a free trade agreement may in fact be due to less underreporting. Further, this paper shows that the larger Canadian tariff preference margin for the U.S. is associated with more goods originating in third countries being transshipped through the U.S. territory for re-export. The preference margin is also positively correlated with the value of excess imports from the U.S., which qualify for preferential treatment. Both results suggest the presence of persistent violations of CUSFTA's rules of origin.