certain threshold is indifferent between staying and moving, i.e. for each of these
firms equation (24) holds.
In a setting where the government lacks the appropriate instruments for per-
fect discrimination, a tax rate cut cum base broadening strategy can be optimal.
Other examples of this literature are the paper by Haufler & Schjelderup (2000)
and Fuest & Hemmelgarn (2005), as discussed in the introductory section. Os-
mundsen, Hagen & Schjelderup (1998) describe a world in which the government
cannot observe mobility of firms but can offer two different tax contracts. They
show that mobile firms will choose the type of taxation that distorts marginal
investment. The distortionary tax system is accepted in order to overcome in-
formation problems. Hong & Smart (2005) show that tax havens can be efficiency
enhancing because they allow mobile firms to lower their effective tax rate without
leaving the country in which they produce.
Third, of course, our results depend on strict assumptions as does every styl-
ized model. It would be interesting to see if our results hold if firm mobility is
allowed to interact with the opportunity of profit shifting via transfer pricing or
thin capitalization, or with foreign firm ownership. Furthermore, we could ask
what happens when governments have other tax instruments like wage taxes, sales
taxes and so on. In reality, the present value of depreciation allowances and the
cost of capital differ per capital asset; it is tempting to ask how this observation
fits to our results. We leave this to further research.
We may conclude that the optimal strategy when firms are internationally mo-
bile can be taxation, subsidization or non-distortion of the marginal investment.
The results depend crucially on the profitability of the mobile firms relative to the
average of the overall economy. In any case, the tax burden is redistributed from
the mobile to the immobile firms. Our results may contribute to understanding re-
cent tax policy developments in many OECD countries. Both the tax rate cut cum
base broadening strategy as well as the subsidization of the marginal investment
can be interpreted as optimal policy responses to growing firm mobility.
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