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Multinational Financial Policy and the Cost of Capital: The Many Roads Home

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  • Rosanne Altshuler

    ()
    (Rutgers University, Department of Economics)

  • Harry Grubert

    ()
    (U.S. Treasury Department)

Abstract

The previous literature on multinational financial policy has, for the most part, been restricted to the choice between dividend distributions to the parent and further real investment in the foreign affiliate. We argue that investment in financial assets such as the debt and equity of related affiliates or Eurodollar deposits, for example, offer multinationals attractive alternatives to dividend repatriation. We present theoretical models that illustrate how investment and financial incentives change when the possibility of investing in financial assets is added to the analysis. Our models depart from previous work in several important ways. We drop the standard arbitrage condition in which equity and debt are perfect substitutes from the viewpoint of the firm and instead impose a worldwide financial constraint consistent with a rising cost of debt finance. In our models, parents can borrow against financial assets held abroad and may allocate debt across locations to achieve the lowest cost of capital at home and abroad. We also consider the implications of models in which affiliates can invest in related affiliates in other foreign countries. We use firm level balance sheet data from controlled foreign corporations (CFCs) available in the Treasury tax files to test the implications of our models. Our regression results confirm the importance of tax considerations in explaining CFC holdings of financial assets. We also find that CFCs with more debt distribute more dividends. This provides evidence that greater dividend distributions do not necessarily imply lower real investment by CFCs.

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Bibliographic Info

Paper provided by Rutgers University, Department of Economics in its series Departmental Working Papers with number 199807.

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Date of creation: 29 Mar 1998
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Handle: RePEc:rut:rutres:199807

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Keywords: financial policy; international taxation; investment policy; multinational; repatriation decisions;

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References

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  1. James R. Hines Jr., 1994. "Credit and Deferral as International Investment Incentives," NBER Working Papers 4191, National Bureau of Economic Research, Inc.
  2. Assaf Razin & Joel Slemrod, 1990. "Taxation in the Global Economy," NBER Books, National Bureau of Economic Research, Inc, number razi90-1, October.
  3. James R. Hines, Jr. & R. Glenn Hubbard, 1990. "Coming Home To America: Dividend Repatriations By U.S. Multinationals," NBER Chapters, in: Taxation in the Global Economy, pages 161-208 National Bureau of Economic Research, Inc.
  4. Stiglitz, Joseph E & Weiss, Andrew, 1981. "Credit Rationing in Markets with Imperfect Information," American Economic Review, American Economic Association, vol. 71(3), pages 393-410, June.
  5. Hartman, David G., 1985. "Tax policy and foreign direct investment," Journal of Public Economics, Elsevier, vol. 26(1), pages 107-121, February.
  6. Alfons Weichenrieder, 1996. "Anti-tax-avoidance provisions and the size of foreign direct investment," International Tax and Public Finance, Springer, vol. 3(1), pages 67-81, January.
  7. Rosanne Altshuler & Jack Mintz, 1996. "U.S. Interest Allocation Rules: Effects and Policy," Departmental Working Papers 199410, Rutgers University, Department of Economics.
  8. David F. Bradford & Hugh J. Ault, 1990. "Taxing International Income: An Analysis of the U.S. System and Its Economic Premises," NBER Working Papers 3056, National Bureau of Economic Research, Inc.
  9. Horst, Thomas, 1977. "American Taxation of Multinational Firms," American Economic Review, American Economic Association, vol. 67(3), pages 376-89, June.
  10. Sinn, H.W., 1990. "Taxation And The Birth Of Foreign Subsidiaries," Papers 66, Princeton, Woodrow Wilson School - Discussion Paper.
  11. Altshuler, R. & Newlon, T.S., 1991. "The Effects of US Tax Policy on the Income Repatriation Patterns of US Multinational Corporations," Discussion Papers 1991_60, Columbia University, Department of Economics.
  12. James R. Hines, Jr. & Eric M. Rice, 1994. "Fiscal Paradise: Foreign Tax Havens and American Business," NBER Working Papers 3477, National Bureau of Economic Research, Inc.
  13. Rosanne Altshuler & T. Scott Newlon & William C. Randolph, 1994. "Do Repatriation Taxes Matter? Evidence from the Tax Returns of U.S. Multinationals," NBER Working Papers 4667, National Bureau of Economic Research, Inc.
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Cited by:
  1. Lars P. Feld & Gebhard Kirchgässner, 2001. "The Impact of Corporate and Personal Income Taxes on the Location of Firms and on Employment: Some Panel Evidence for the Swiss Cantons," CESifo Working Paper Series 455, CESifo Group Munich.

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