The economic effects of EU-reforms in corporate income tax systems

Figure 2.9
Reduced-form elasticity of the tax base in % of GDP (due to profit shifting) with respect to the
corporate tax rate according to CORTAX
Tax elasticity of the tax base due to profit shifting
Size of the multinational sector
0
0 0.5 1 1.5 2 2.5 3
-0.1
-0.2
-0.3
-0.4
-0.5
-0.6
-0.7
-0.8
-0.9
2.2.3.5 Profit shifting to tax havens
The size of profit shifting to the tax haven is determined by the convexity of the effort cost
function. We set the parameters such that we obtain a semi-elasticity of the corporate tax base
of − ½. It implies that a 10%-point tax differential vis a vis the average tax haven reduces the
corporate tax base by 5%. The calibration is based on two pieces of evidence. First, empirical
studies on profit shifting typically yield large elasticities of the tax base. For instance, De Mooij
(2005) reports a tax-rate elasticity of the corporate tax base of − 1.0 on the basis of a selection
of empirical studies on profit shifting. The elasticity captured by transfer pricing in CORTAX
implies an average elasticity of approximately − ¼ on average (see Figure 2.9). Adding − ½
brings the total magnitude of profit shifting closer to these empirical estimates. A second piece
of evidence is obtained from our revenue estimates. The predicted corporate tax revenues by
CORTAX are approximately 1% of GDP higher than the observed revenues in European
member states. One reason for this might be the underestimation of profit shifting. With the
calibration of − ½, the corporate tax-to-GDP ratio falls by slightly more than 1% so that
CORTAX now properly reflects actual tax revenue in the EU. The size of this revenue effect
differs across countries and depends on the initial corporate tax rate. In particular, the higher the
rate, the more profits are shifted and the larger is the reduction in tax revenue. Figure 2.10
shows that revenues fall up to 2% in high-tax countries like Germany and Italy and by a
negligible amount in low-tax countries like Cyprus, Bulgaria and Ireland.
27