The Effect of Tax-Motivated Transfer Pricing on U.S. Aggregate Trade Statistics: Working Paper 2019-05
In this working paper, CBO analyzes how corporate income tax rates affect flows of trade between the affiliates of multinationals—known as related-party trade—to examine whether transfer prices are sensitive to tax differentials.
By Dorian Carloni, Daniel Fried, and Molly Saunders-Scott (all of CBO)
The prices that multinational corporations set for transactions among international affiliates—referred to as transfer prices—play an important role in determining where income is taxed. Many factors affect how multinationals set their transfer prices, including tax considerations. If tax considerations affect transfer prices, then those changes in transfer prices may distort aggregate trade and income statistics. In this paper, we analyze how corporate income tax rates affect trade flows between the affiliates of multinationals—known as related-party trade—to examine whether transfer prices are sensitive to tax differentials. To do so, we construct a simple model of related-party trade based on Egger and Seidel (2013) and test that model empirically using aggregate trade data. We find that changes in related-party exports and imports associated with changes in corporate tax differentials are consistent with that model’s predictions for tax-sensitive transfer pricing by multinationals. In addition, we use the 2017 reduction in the U.S. statutory corporate tax rate as an example and estimate that the 13.1 percentage-point decline in the U.S. corporate tax rate may increase the U.S. trade balance by as much as 9 percent through its effect on related-party trade.