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Tax optimization of multinational firms through transfer pricing: a survey of main theoretical foundations and potential macroeconomic impacts

  • Filip Novotný

If taxes are the same across countries and no tariffs are imposed on international trade, the optimal strategy of a multinational firm is to set transfer prices at marginal costs of its affiliated firms. But in reality we observe trade tariffs and tax differences among countries which lead multinational firms to deviate transfer prices from marginal costs. Multinationals use transfer prices in order to increase profits in affiliates which are located in low tax countries at the expense of affiliates which are located in high tax countries. I demonstrate on a sample of EU countries that the lower the tax rate in a country the higher the profitability of foreign direct investment in that country. As some studies suggest the gross value added and export prices are artificially overvalued in low tax countries and artificially undervalued in high tax countries.

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Article provided by University of Economics, Prague in its journal Politická ekonomie.

Volume (Year): 2008 (2008)
Issue (Month): 1 ()
Pages: 40-53

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Handle: RePEc:prg:jnlpol:v:2008:y:2008:i:1:id:629:p:40-53
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