Tax havens under international pressure: How do they react?

This paper contributes to the literature about tax havens by providing a more comprehensive analysis of their role. The aim is to analyze how low-tax jurisdictions can react to growing international pressure exerted, by high-tax countries, to enforce compliance with anti aggressive tax planning standards. To this end, we model how a small tax haven tries to be attractive to multinationals located in a high-tax region by providing aggressive tax planning services and/or a favorable environment for local activities. The model demonstrates that under realistic conditions it is optimal to stigma- tize a non-compliant low-tax jurisdiction, even if its reputation for being attractive to real foreign investments is thereby affected. Another result is that a welfarist government could, under certain circumstances, optimally tolerate some aggressive tax planning. Finally, the paper shows that the threat of political pressure against uncooperative tax havens can induce, under specific conditions, voluntary compliance.