Download this Paper Open PDF in Browser

Gray Markets and Multinational Transfer Pricing

51 Pages Posted: 6 Mar 2009 Last revised: 23 Jul 2011

Romana L. Autrey

Willamette University - Atkinson Graduate School of Management

Francesco Bova

University of Toronto - Rotman School of Management

Date Written: July 20, 2011

Abstract

Gray markets arise when a manufacturer’s products are sold outside of its authorized channels, for instance when goods designated by a multinational firm for sale in a foreign market are resold domestically. One method multinationals use to combat gray markets is to increase transfer prices to foreign subsidiaries in order to increase the gray market’s cost base. We illustrate that, when a gray market competitor exists, the optimal transfer price to a foreign subsidiary exceeds marginal cost and is decreasing in the competitiveness of the domestic market. However, a multinational’s discretion in setting transfer prices may be limited by mandatory arm’s length transfer pricing rules. Provided gray markets exist, we characterize when mandating arm’s length transfer pricing lowers domestic social welfare relative to unrestricted transfer pricing. We also demonstrate that gray markets can lead to higher domestic tax revenues, even when gray market firms do not pay taxes domestically.

Keywords: Transfer pricing, gray markets, regulation

JEL Classification: M41, D43, F23

Suggested Citation

Autrey, Romana L. and Bova, Francesco, Gray Markets and Multinational Transfer Pricing (July 20, 2011). Harvard Business School Accounting & Management Unit Working Paper No. 09-098; Accounting Review, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1351883

Romana L. Autrey

Willamette University - Atkinson Graduate School of Management ( email )

900 State Street
Salem, OR 97301
United States

Francesco Bova (Contact Author)

University of Toronto - Rotman School of Management ( email )

105 St. George Street
Toronto, Ontario M5S 3E6 M5S1S4
Canada
416-978-3985 (Phone)

Paper statistics

Downloads
700
Rank
29,524
Abstract Views
4,250