Tax Competition and Transfer Pricing Disputes

Abstract

Transfer pricing regulations, which are designed to limit multinationals' profit shifting activities, have been tightened in recent years in the US. These new regulations have been enacted to increase the tax revenue collected from multinationals, in response to domestic political concerns that foreign companies are not contributing adequate tax revenues. This paper examines the implications of such a struggle by governments to collect tax revenues from multinational firms. It is shown that such behavior will lead to a non-cooperative equilibrium characterized by the double taxation of corporate profits, and consequently by a depressed level of international trade. Conversely, cooperation between governments could potentially increase both tax revenues and trade.

JEL Classification: F12, H87