CEPR Financial Markets Paper from European Science Foundation Network in Financial Markets, c/o C.E.P.R, 77 Bastwick Street, London EC1V 3PZ.
The residence-based principle has been proposed as a second-best measure to the full international coordination of capital tax policies. A basic requirement for this system to work is that tax authorities have full information about the foreign investments of their residents. The degree of information transmission among governments can be considered as a variable used strategically in the same way taxes are, however. We show that under some features of the tax system there will not be any information sharing, while there are institutional arrangements under which governments will transmit partial information for strategic purposes. We also show that full information sharing is not necessarily a Pareto optimum. Our conclusion is that the informational behaviour of governments is crucial and should be taken into account when designing the optimal international tax system.