| his dissertation examines transfer pricing policies of a stylized U.S. company with a wholly-owned manufacturing subsidiary in a lower-tax country. I examine the effects of hidden information and hidden action on the production and tax goals of the parent. Specifically, I initially assume the subsidiary manager cannot affect costs but has private information concerning subsidiary production costs and has an incentive to use that private information to maximize subsidiary profit, thus undermining the parent's goal of maximizing combined profits. In this hidden information setting, the parent can only ensure optimal subsidiary production by setting a higher transfer price, on average, than required under perfect information. To accomplish this payment of information rents, I design a "piecemeal contract" transfer pricing policy, whereby the parent decreases the per unit transfer price for increasing quantities of the intermediate product. The payment of information rents shifts pre-tax profit to the subsidiary and furthers the parent's goal of maximizing world-wide after-tax profit (since the subsidiary is in a low-tax country). An interesting result, however, is that the hidden information problem limits the parent's ability to follow an aggressive tax-reducing transfer pricing policy.;Then, I assume the subsidiary manager may lower production costs with sufficient effort. The subsidiary manager must be compensated for the personal cost of his effort; otherwise, he will not work to lower costs. If the subsidiary manager is paid a percentage,... |
