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The Economics of Advance Pricing Agreements

Johannes Becker, Ronald B. Davies
and Gitte Jakobs

IIIS Discussion Paper No. 458

Advance pricing agreements (APAs) determine transfer prices for intra-firm transactions in advance. This paper interprets these contracts as a means to overcome a hold-up problem that occurs because governments cannot commit to non-excessive future tax rates. In addition, with private information, just as in practice, our APAs will be complex and require lengthy negotiations. Nevertheless, implemented APAs lead to a Pareto improvement even when all agents are risk neutral. However, not all efficient APAs are concluded in equilibrium. International agreements to avoid double taxation will likely reduce the number of realized APAs.

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Last updated 10 December 2014 by IIIS (Email).