Politics over Profits? A quantitative study of the effect of state-ownership and development on the incentive to shift profits

Abstract

The literature covers empirical evidence examining the profit shifting behaviour of multinational firms within advanced economies. With the increasing interest of governments in detecting profit shifting behaviour, few existing papers investigate if there are differences in the incentive to shift profits in countries classified as developing relative to more advanced economies. Moreover, due to the state’s grip on the overall global economy and its presence in developing economies, it is interesting to investigate state-owned multinationals’ response to a change in the tax differentials between affiliates. Following the novel method developed by Huizinga and Laeven (2008) and employing a panel data study on affiliate-year observations for 2013 to 2020, we ran regressions with different socio-political characteristics as categorisations on the dependent variable, earnings before interest and tax (EBIT). When analysing financial and ownership data provided by the Orbis database, we could not find a true relationship between the tax differential and the reported EBIT. Moreover, we could not find a significant difference between the tax incentives of state-owned multinationals and other multinationals. However, by categorising the observations after governance indicators, we observe positive levels of tax sensitivity with an increase in the government effectiveness and regulatory quality of a country. Thus, the multinationals’ response to a change in the tax differential may be incentivised by differences in socio-political factors between affiliates with different host countries.