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Taxation of Foreign Multinationals: A Sequential Bargaining Approach to Tax Holidays

  • Doyle, Christopher
  • van Wijnbergen, Sweder

In this paper we view the tax schedule applied to the profits of a Multinational Enterprise (MNE) as the outcome of a sequential bargaining process and show, using modern game theory developments (the "perfect equilibrium" solution concept) that tax holidays will emerge from such a process if a MNE incurs fixed costs upon entry. At the core of our results is the recognition that the existence of sunk costs creates an ex post (entry) bilateral monopoly situation. We show that the tax rate emerging from this form of bargaining has a dynamic structure. We obtain results on the length and discounted value of the tax holiday, its precise form and the way all this responds to changes in fixed costs.

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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 25.

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Date of creation: Aug 1984
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Handle: RePEc:cpr:ceprdp:25
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  1. Ariel Rubinstein, 2010. "Perfect Equilibrium in a Bargaining Model," Levine's Working Paper Archive 661465000000000387, David K. Levine.
  2. Bond, Eric W & Samuelson, Larry, 1986. "Tax Holidays as Signals," American Economic Review, American Economic Association, vol. 76(4), pages 820-26, September.
  3. Thomas, Jonathan & Worrall, Tim, 1994. "Foreign Direct Investment and the Risk of Expropriation," Review of Economic Studies, Wiley Blackwell, vol. 61(1), pages 81-108, January.
  4. Black, Dan A & Hoyt, William H, 1989. "Bidding for Firms," American Economic Review, American Economic Association, vol. 79(5), pages 1249-56, December.
  5. Shaked, Avner & Sutton, John, 1984. "Involuntary Unemployment as a Perfect Equilibrium in a Bargaining Model," Econometrica, Econometric Society, vol. 52(6), pages 1351-64, November.
  6. King, Ian & Welling, Linda, 1992. "Commitment, Efficiency and Footloose Firms," Economica, London School of Economics and Political Science, vol. 59(233), pages 63-73, February.
  7. Jean-Francois Wen, 1992. "Tax Holidays in a Business Climate," Working Papers 864, Queen's University, Department of Economics.
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