| Regulations governing multinational firms' international intercompany transfers are becoming commonplace among the world's leading economic countries. Herein, I consider the factors that influence firm behavior—its transfer prices, investment decisions, and intangible cost allocations—in a regulated environment.;This paper begins with a simple model of multinational firm decision making in the presence of transfer pricing regulations. The novel aspect of this model is that a firm's foreign direct investment (FDI) decision is determined endogenously. When a tax differential exists between two countries, transfer pricing regulations move a firm's optimal transfer price for tangible assets closer to the statutory arm's length price and lower its expected profits. The regulations have negative real effects on outputs and price. Tax policies designed to minimize income shifting through transfer prices can actually reduce local tax revenues. Tax policies also change a firm's incentives to engage in FDI and thus change the firm's taxable income.;Governments, in considering the impact of transfer pricing regulations on national welfare, should not take FDI as given. Thus, a model of optimal government transfer pricing regulations that incorporates the endogenous location decision of the firm is developed. In a two-stage game, the government moves first to credibly set policy over a continuum of choices. The effects of such regulations on outputs, prices, and international investments are demonstrated and the welfare-maximizing regulation is characterized. The nature of the Nash equilibrium depends on the economic environment and is evaluated through simulations.;Multinational firms' treatment of intangible asset transfers among related foreign entities is governed by cost sharing rules and regulations on intangible assets. Whether the firm chooses a cost-sharing or licensing arrangement, the basis of allocation must be tied to benefits rather than costs. Because the relevant regulations are not specific and a benefits analysis is more subjective, the theory presented in the last chapter considers alternative conceptual rules of allocation/valuation rather than actual rules assuming differences in tax rates. Among methods of allocation, output, firm profits, tax revenues, consumer surplus, and welfare differ. An interesting result is that a profit-based allocation, unlike a revenue-based allocation, does not distort output. |
