Risk Shifting and Profit Shifting of Chinese Multinational Enterprises

Abstract

Multinational enterprises (MNEs) can shift profits across borders to minimize their global taxation. One implicit strategy is to shift the operating risk involved in internal transactions to countries with low tax rates. This paper studies the risk-shifting strategy and profit-shifting scale of Chinese MNEs, using micro data on manufacturing firms. We find that when the corporate tax rate differential between China and the foreign country rises by 10%, Chinese MNEs shift risk and profit to low tax rate affiliates, with the remaining risk in the Chinese parents decreasing by 9.7% from the mean value, and the remaining profit decreasing by 8.0%. The significant effect only exists among firms with high levels of intangible assets. We also estimate that the annual loss of corporate tax revenue in China is around $12 billion, which is 3.1% of the corporate tax base, lower than the estimates based on data on developed countries.

Keywords: Risk Shifting, Profit Shifting, Transfer Pricing, Multinational Enterprises, OFDI