Tax competition and phantom FDI

Giuseppe Pulina and Skerdilajda Zanaj

Journal of Public Economic Theory, 2022, vol. 24, issue 6, 1342-1363

Abstract: Offshore financial centers are almost never the final destination of the foreign direct investments (FDI) they receive. A large portion of these investments are phantom FDI, which ultimately flow to third countries or return back to the source country in a process called round‐tripping. This paper develops a model in which onshore countries compete internationally with tax instruments to attract capital from abroad, in the presence of an offshore financial center that encourages phantom FDI. We show that the presence of offshore financial centers is beneficial to technologically advanced countries, whereas it is detrimental to others. Finally, we use this framework to analyze the effectiveness of Controlled Foreign Company (CFC) rules against profit shifting recently implemented in Europe and the associated loss of tax base.

Date: 2022
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Working Paper: Tax competition and phantom FDI (2021)
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