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The Optimal Taxation of Foreign Source Investment Income

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  • Martin Feldstein
  • David G. Hartman

Abstract

Our paper begins with the relatively simple problem of optimal taxation as viewed by the capital-exporting ("home") country when it can assume that its actions do not alter the tax rate in the host country. Section I also shows that when foreign investment accounts for a significant fraction of production in the host country, the capital-exporting country should tax foreign source investment income more heavily than is implied by the "full taxation after deduction" rule. The important question of tax rate interdependence is developed in Section II. In the third section we replace the assumption that all foreign investment is financed by a transfer of equity capital from the home country with the more realistic description that subsidiary firms borrow in the host country. Although this raises the profitability to the home country of investment by its foreign subsidiaries, we show that this need not alter the conclusions of the previous sections. We regard the present paper as only a first step in a proper analysis of the complex issue of optimal taxation of foreign source investment income. . The static analysis of the present paper should be extended to consider investment paths in growing economics. Finally, the purely nationalistic optimality criterion could be generalized to give some weight to the real income of the rest of the world.

Suggested Citation

  • Martin Feldstein & David G. Hartman, 1980. "The Optimal Taxation of Foreign Source Investment Income," NBER Working Papers 0193, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:0193
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    References listed on IDEAS

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    1. Robert E. Baldwin, 1952. "The New Welfare Economics and Gains in International Trade," The Quarterly Journal of Economics, Oxford University Press, vol. 66(1), pages 91-101.
    2. G. D. A. MacDougall, 1960. "THE BENEFITS and COSTS OF PRIVATE INVESTMENT FROM ABROAD: A THEORETICAL APPROACH," The Economic Record, The Economic Society of Australia, vol. 36(73), pages 13-35, March.
    3. Martin Feldstein & Jerry Green & Eytan Sheshinski, 1979. "Corporate Financial Policy and Taxation in a Growing Economy," The Quarterly Journal of Economics, Oxford University Press, vol. 93(3), pages 411-432.
    4. Ronald W. Jones, 1967. "International Capital Movements and the Theory of Tariffs and Trade," The Quarterly Journal of Economics, Oxford University Press, vol. 81(1), pages 1-38.
    5. Koichi Hamada, 1966. "Strategic Aspects of Taxation on Foreign Investment Income," The Quarterly Journal of Economics, Oxford University Press, vol. 80(3), pages 361-375.
    6. Murray C. Kemp, 1962. "Foreign Investment And The National Advantage," The Economic Record, The Economic Society of Australia, vol. 38(81), pages 56-62, March.
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    Cited by:

    1. Slemrod, Joel & Hansen, Carl & Procter, Roger, 1997. "The seesaw principle in international tax policy," Journal of Public Economics, Elsevier, vol. 65(2), pages 163-176, August.
    2. Yong Yang, 1998. "International Taxation When Domestic Distributional Policy is Constrained," International Economic Journal, Taylor & Francis Journals, vol. 12(1), pages 75-93.
    3. Peter J. Mullins, 2006. "Moving to Territoriality? Implications for the United States and the Rest of the World," IMF Working Papers 06/161, International Monetary Fund.

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