Transfer pricing rules, OECD guidelines, and market distortions
We study the impact of transfer pricing rules on sales prices, firmsâ€™ organizational structure, and consumersâ€™ utility within a two-country monopolistic competition model featuring source-based profit taxes that differ across countries. Firms can either become multinationals, i.e., they serve the foreign market through a fully controlled affiliate; or they can become exporters, i.e., they serve the foreign market by contracting with an independent distributor. Compared to the benchmark cases, where tax authorities are either unable to audit firms or where they are able to audit them perfectly, the use of the OECDâ€™s Comparable Uncontrolled Price (CUP) or Cost-Plus (CP) rule distorts firmsâ€™ output and pricing decisions. The reason is that the comparable armâ€™s length transactions between exporters and distributors, which serve as benchmarks, are not efficient. We show that implementing the CUP or CP rules is detrimental to consumers in the low tax country, yet benefits consumers in the high tax country.
|Date of creation:||01 Nov 2009|
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