Do multinational firms invest more? On the impact of internal debt financing and transfer pricing on capital accumulation


This study analyzes whether multinational companies (MNC) that are able to reduce their tax burden on capital by shifting profits to low tax jurisdictions invest more than domestic firm. To study the relationship, I exploit a massive corporate tax rate cut of 10%-points in Germany 2008 as a quasi-natural experiment. This reform reduced substantially the incentive of MNC to engage in profit shifting. Using a difference in differences matching strategy (DiD), the results suggest that MNC decreased their fraction of internal borrowing and their capital stock compared to purely domestic firms. Taking the evidence together, the findings suggest that if MNC shift profits abroad, their capital accumulation is less depressed by the national tax rate and, therefore, benefits less from a tax rate reduction. The DiD results are confirmed by a more structural approach, which exploits variation in the tax incentive to shift profits to the headquarter for identification. Further, the results suggest that only internal debt financing but not transfer pricing fosters capital accumulation.

Research Highlight's


Do multinational firms invest more? On the impact of profit shifting on capital accumulation

This research sets out to examine the link between profit shifting and investment. Specifically, it compares the incentives to undertake investment domestically for multinational companies that may be able to reduce their tax burden by shifting profits to low tax countries, compared to domestic firms that may not have this opportunity. To investigate this, the research compares the response of German multinationals and German domestic companies to the large corporation tax rate cut of 10 percentage points in Germany in 2008. The reform reduced the incentive of German multinationals to shift profit out of Germany. The results suggest that multinationals reduced their capital expenditure compared to purely domestic firms. This is consistent with the hypothesis that multinationals are less sensitive to the domestic tax rate since they are more able to shift profit out of the country; they therefore benefit less from a rate reduction and hence respond less. These results are confirmed using alternative econometric approaches.

Martin Simmler. CBT Working Paper 15/30



Does profit shifting reduce tax disincentives to invest?

There have been many empirical studies investigating the impact of taxation on the location and scale of investment, and on the use of debt finance to shift profits from high tax to low tax jurisdictions. Yet these two types of response to taxation have almost always been studied independently. A recent CBT research project seeks to link the two. Specifically, it aims to investigate how the incentive to shift profit affects decisions regarding investment. To do so, it exploits a tax reform in Germany that reduced the corporation tax rate by 10 percentage points. While this directly affected the incentive to undertake investment in Germany for all companies, it also had the effect of reducing the incentive for multinational companies to use debt finance in Germany to shift profits elsewhere. Comparing changes in investment after the tax reform for multinational companies relative to domestic companies, it is in principle possible to identify any indirect effects of this profit shifting on investment by multinational companies in Germany. The study finds first that  multinational companies did reduce their borrowing in Germany following the reform. It also finds that multinational companies reduced their investment in Germany relative to domestic companies. These results suggest that the opportunity to shift income abroad has a material effect on the extent to which corporation tax acts as a disincentive to invest.

Martin Simmler