ECONOMIC INTEGRATION AND AGGLOMERATION OF MULTINATIONAL PRODUCTION WITH TRANSFER PRICING

Do low corporate taxes always favor multinational production over economic integration? We propose a two-country model in which multinationals choose the locations of plants and foreign distribution affiliates shift profits between them through transfer prices. With high trade costs, are concentrated low-tax country; surprisingly, this pattern reverses with costs. Indeed, integration has nonmonotonic impact: Falling costs first decrease then increase plant share high-tax country, we empirically confirm. Moreover, allowing for pricing makes tax competition tougher international coordination on transfer-pricing regulation can be beneficial.