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Economics of Transfer Pricing Reviewed

7 Pages Posted: 2 Jan 2007 Last revised: 19 Dec 2010

Tomas Buus

University of Economics, Prague

Jaroslav Brada

University of Economics, Prague

Date Written: September 31, 2008

Abstract

Both older and recent literature on transfer pricing is not unified about the opinion whether optimal transfer price should be equal to marginal cost of supplying company and set by centralized decision (of vertically integrated multibusiness enterprise headquarters) or whether it should be set by negotiation or even set on level of market (arms-length) price. Those, who argue for setting transfer price by negotiation or at the market price base their arguments on market imperfections like information asymmetry, motivation of managers, et cetera. This paper deals inter alia with problem of methodology transfer pricing mathematical modelling. We prove that optimal transfer price should be equal to average cost of the supplying division plus part (or whole) economic profit of the multibusiness enterprise (hereinafter “MBE”), independent on the market conditions at the market of either intermediate or final product. Setting transfer price on the level of marginal cost is inefficient and would earlier or later lead to loss of MBE’s ability to compete its rivals.

Keywords: multibusiness enterprise, OECD taxation guidelines, transfer pricing, vertical integration

JEL Classification: D21, D29, G39, M40, M46

Suggested Citation

Buus, Tomas and Brada, Jaroslav, Economics of Transfer Pricing Reviewed (September 31, 2008). Available at SSRN: https://ssrn.com/abstract=954333 or http://dx.doi.org/10.2139/ssrn.954333

Tomas Buus (Contact Author)

University of Economics, Prague ( email )

Nam. W. Churchilla 4
Praha, 130 67
Czech Republic

Jaroslav Brada

University of Economics, Prague ( email )

nam. W.Churchilla 4
Prague 3, 130 67
Czech Republic

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