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The Effect of Tax Havens on Host Country Welfare

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Abstract
Multinational corporations can shift income into low-tax countries through transfer pricing and debt financing. While most developed countries use thin capitalization rules to limit the extent to which a subsidiary can be financed with internal debt, a number of developing countries do not. In this paper, we analyze the effect on FDI and host country welfare of thin capitalization rules when multinationals can also shift income via transfer prices. We show that while permissive thin capitalization limits may be needed in developing countries to attract FDI, the amount of debt financing allowed by the permissive limits facilitates more aggressive transfer pricing and results in lower host country welfare.

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  • Gresik, Thomas A. & Schindler, Dirk & Schjelderup, Guttorm, 2015. "The Effect of Tax Havens on Host Country Welfare," Discussion Papers 2015/19, Norwegian School of Economics, Department of Business and Management Science.
    • Handle: RePEc:hhs:nhhfms:2015_019
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    File URL: http://hdl.handle.net/11250/282460
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    References listed on IDEAS

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    1. Keuschnigg, Christian & Devereux, Michael P., 2013. "The arm's length principle and distortions to multinational firm organization," Journal of International Economics, Elsevier, vol. 89(2), pages 432-440.
    2. Jennifer Blouin & Harry Huizinga & Luc Laeven & Gaëtan Nicodème, 2013. "Thin capitalization rules and multinational firm capital structure," Working Papers 1323, Oxford University Centre for Business Taxation.
    3. Johannesen, Niels, 2012. "Optimal fiscal barriers to international economic integration in the presence of tax havens," Journal of Public Economics, Elsevier, vol. 96(3), pages 400-416.
    4. Hong, Qing & Smart, Michael, 2010. "In praise of tax havens: International tax planning and foreign direct investment," European Economic Review, Elsevier, vol. 54(1), pages 82-95, January.
    5. Loukas Karabarbounis & Brent Neiman, 2014. "Capital Depreciation and Labor Shares Around the World: Measurement and Implications," NBER Working Papers 20606, National Bureau of Economic Research, Inc.
    6. S. Abbas & Alexander Klemm, 2013. "A partial race to the bottom: corporate tax developments in emerging and developing economies," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 20(4), pages 596-617, August.
    7. Slemrod, Joel & Wilson, John D., 2009. "Tax competition with parasitic tax havens," Journal of Public Economics, Elsevier, vol. 93(11-12), pages 1261-1270, December.
    8. Buettner, Thiess & Overesch, Michael & Schreiber, Ulrich & Wamser, Georg, 2012. "The impact of thin-capitalization rules on the capital structure of multinational firms," Journal of Public Economics, Elsevier, vol. 96(11), pages 930-938.
    9. Davies, Ronald B & Gresik, Thomas A, 2003. "Tax Competition and Foreign Capital," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 10(2), pages 127-145, March.
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    Cited by:

    1. Thiess Buettner & Michael Overesch & Georg Wamser, 2018. "Anti profit-shifting rules and foreign direct investment," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 25(3), pages 553-580, June.
    2. Schjelderup, Guttorm, 2015. "Taxing mobile capital and profits: The nordic welfare states," Discussion Papers 2015/30, Norwegian School of Economics, Department of Business and Management Science.
    3. Zarko Y. Kalamov, 2020. "Safe haven or earnings stripping rules: a prisoner’s dilemma?," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 27(1), pages 38-76, February.
    4. Gresik, Thomas A. & Schindler, Dirk & Schjelderup, Guttorm, 2017. "Immobilizing corporate income shifting: Should it be safe to strip in the harbor?," Journal of Public Economics, Elsevier, vol. 152(C), pages 68-78.
    5. Guttorm Schjelderup, 2016. "Secrecy jurisdictions," International Tax and Public Finance, Springer;International Institute of Public Finance, vol. 23(1), pages 168-189, February.
    6. Alfons J. Weichenrieder & Fangying Xu, 2019. "Are tax havens good? Implications of the crackdown on secrecy," Journal of Economics, Springer, vol. 127(2), pages 147-160, July.
    7. S. Juranek & D. Schindler & A. Schneider, 2023. "Royalty taxation under tax competition and profit shifting," Canadian Journal of Economics/Revue canadienne d'économique, John Wiley & Sons, vol. 56(4), pages 1377-1412, November.
    8. John D. Wilson, 2015. "Tax Havens in a World of Competing Countries," ifo DICE Report, ifo Institute - Leibniz Institute for Economic Research at the University of Munich, vol. 12(04), pages 32-39, January.
    9. John D. Wilson, 2015. "Tax Havens in a World of Competing Countries," CESifo DICE Report, Ifo Institute - Leibniz Institute for Economic Research at the University of Munich, vol. 12(4), pages 32-29, 01.
    10. Mardan, Mohammed & Stimmelmayr, Michael, 2020. "Tax competition between developed, emerging, and developing countries – Same same but different?," Journal of Development Economics, Elsevier, vol. 146(C).
    11. Mohammed Mardan, 2019. "Tax Systems and Development," CESifo Working Paper Series 7940, CESifo.
    12. Kalamov, Zarko Y., 2015. "Safe Haven vs. Earnings Stripping Rules: a Prisoner Dilemma?," EconStor Preprints 110895, ZBW - Leibniz Information Centre for Economics.
    13. repec:ces:ifodic:v:12:y:2015:i:4:p:19149988 is not listed on IDEAS

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    More about this item

    Keywords

    Tax havens; welfare; multinational corporations; FDI; transfer pricing;
    All these keywords.

    JEL classification:

    • F23 - International Economics - - International Factor Movements and International Business - - - Multinational Firms; International Business
    • H25 - Public Economics - - Taxation, Subsidies, and Revenue - - - Business Taxes and Subsidies
    • O10 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - General

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