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Dynamic Inconsistency, Falling Cost of Capital Relocation and Preferential Taxation of Foreign Capital

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  • Kaushal Kishore

    (Department of Economics, University of Pretoria)

Abstract

When capital is sunk after it is invested, a host government facing heterogeneous foreign investors who differ in their cost of capital relocation (which falls over time) has a strong incentive to wait in order to gain from relatively lower cost of capital relocation and offer preferential taxes over time in order to attract less eager investors. We ?nd that, if the government can commit to future tax rates, the tax revenue increases as the cost of relocation decreases. Moreover, under preferential taxation scheme the equilibrium tax revenue of the government is equal to what it can earn under full commitment. The tax revenue under non-preferential taxation scheme is lower compare to full commitment outcome when cost of capital relocation falls considerably over time but remains strictly positive. Under every taxation schemes considered in this paper, the equilibrium tax rate falls over time if cost of capital relocation falls considerably which offers another explanation for- ``why the tax rate falls over time in tax treaties?"

Suggested Citation

  • Kaushal Kishore, 2016. "Dynamic Inconsistency, Falling Cost of Capital Relocation and Preferential Taxation of Foreign Capital," Working Papers 201633, University of Pretoria, Department of Economics.
    • Handle: RePEc:pre:wpaper:201633
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    References listed on IDEAS

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    More about this item

    Keywords

    Dynamic inconsistency; Foreign direct investment; Falling cost of capital relocation; Non-preferential taxation;
    All these keywords.

    JEL classification:

    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • H21 - Public Economics - - Taxation, Subsidies, and Revenue - - - Efficiency; Optimal Taxation
    • H25 - Public Economics - - Taxation, Subsidies, and Revenue - - - Business Taxes and Subsidies
    • H87 - Public Economics - - Miscellaneous Issues - - - International Fiscal Issues; International Public Goods

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