Tax competition and FDI: The special case of developing countries

Abstract

According to the foreign direct investment (FDI) literature, the elasticities between FDI and its determinants vary considerably with the level of host country development. This may be a major concern when dealing with the influence of corporate tax rates on FDI in developing countries, since most studies concentrate on developed countries. Using data on Japanese firm location choices between 1990 and 2000, we contrast differences in regional tax rates in order to reveal an asymmetry between developed and developing countries. By looking at the interaction effects between Japan and host developing countries' tax systems, we also put forward the idea that special tax sparing provisions signed with Japan can alter the effect of host country taxes on Japanese firms' location choices. Finally, we find that even though tax competition can be strong in developing countries, this competition should not lead to an effective rate of zero taxation for these countries in their competition for FDI inflows. J. Japanese Int. Economies 22 (1) (2008) 85-108. © 2007 Elsevier Inc. All rights reserved.