Transfer Pricing and the Arm's Length Principle Under Imperfect Competition

53 Pages Posted: 21 Feb 2019

See all articles by Jay Pil Choi

Jay Pil Choi

Michigan State University - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute)

Taiji Furusawa

University of Tokyo

Jota Ishikawa

Hitotsubashi University-Faculty of Economics

Date Written: 2018

Abstract

This paper analyzes incentives of a multinational enterprise to manipulate an internal transfer price to take advantage of corporate-tax differences across countries under both monopoly and oligopoly. We examine “cost plus” and “comparable uncontrollable price” as two alternative implementations of the so-called arm’s length principle (ALP) to mitigate this problem. Tax-induced foreign direct investment (FDI) may entail inefficient internal production. We show how the mechanisms behind such inefficient FDI differ between alternative implementation schemes of the ALP and explore implications of the ALP for welfare and dual sourcing incentives. We also develop a novel theory of vertical foreclosure as an equilibrium outcome of strategic transfer pricing.

Keywords: foreign direct investment, multinational enterprise, corporate tax, transfer pricing, arm’s length principle, vertical foreclosure

JEL Classification: F120, F230, H260, L120, L130, L510, L520

Suggested Citation

Choi, Jay Pil and Furusawa, Taiji and Ishikawa, Jota, Transfer Pricing and the Arm's Length Principle Under Imperfect Competition (2018). CESifo Working Paper No. 7303, Available at SSRN: https://ssrn.com/abstract=3338632

Jay Pil Choi (Contact Author)

Michigan State University - Department of Economics ( email )

101 Marshall Hall
East Lansing, MI 48824
United States
517-353-7281 (Phone)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

HOME PAGE: http://www.CESifo.de

Jota Ishikawa

Hitotsubashi University-Faculty of Economics ( email )

2-1 Naka, Kunitachi
Tokyo, Tokyo 186-8601
Japan
+81425808794 (Phone)

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