The public debate on tax base erosion by multinational enterprises (MNEs) has been stirred up by strikingly low effective tax rates (ETRs) of some very prominent US-American information technology companies. Going beyond such anecdotal insights, numerous empirical studies provide general evidence for profit shifting by confirming a negative correlation between reported parent or subsidiary profits and local tax levels. Given the current state of research, the existence of profit-shifting behavior is largely unquestioned. Nevertheless, there is much lower a consensus about the scale of the profit-shifting activity and its responsiveness to the crosscountry tax differential allowing for tax arbitrage. The objective of this paper is to add to the current state of research and debate in two ways. First, we provide a consensus estimate of the size of the tax-rate elasticity of reported parent or subsidiary profits and explain which factors determine the variation in previous empirical findings. Second, we investigate which of the profit-shifting channels generally distinguished, financial structures or transfer pricing, is more important. To this end, we conduct a meta-analysis of the complete literature in both public economics and accounting research that estimates the tax sensitivity of interest. On the basis of the existing evidence, we predict a tax semi-elasticity of pre-tax profit of about 0.8, in absolute terms. Hence, reported profits decrease by about 0.8% if the international tax differential that can be exploited for tax arbitrage increases by 1 percentage point. Moreover, our findings suggest that transfer pricing and licensing, not inter-company debt, is indeed the dominant profit-shifting channel.
Heckemeyer, Jost Henrich and Michael Overesch (2013), Multinationals' Profit Response to Tax Differentials: Effect Size and Shifting Channels, ZEW Discussion Paper No. 13-045, Mannheim.