Tax us, if you can: a game theoretic approach to the European Union's political impasse on a new corporate tax system

Abstract

In this paper we theoretically analyse the European Union's ongoing political impasse regarding the choice of a single method to allocate multinational enterprises' profits across countries and we find that this strategic situation resembles a coordination game with distributional consequences. The two Nash equilibria involve no efficiency trade-off, but the conflictual distribution of welfare gains and the presence of heterogeneous preferences have been preventing the implementation of a long-term comprehensive tax policy reform. A unitary taxation approach with formulary apportionment in the European Union is better suited to tackle artificial profit shifting via transfer pricing and would mean an evolutionary change without disrupting the current international tax policy environment. It would restore faith in fairness of the European tax system, while also allowing for further global coordinated actions to tackle the gradual decline and inadequacy of the current international transfer pricing standard-based regulatory model (based in legally non-binding standards and guidelines).