Zero Corporate Income Tax in Moldova: Tax Competition and Its Implications for Eastern Europe

IMF Working Papers, August 1, 2008

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Global economic integration intensified tax competition and raised concerns about a "race to the bottom" that could undermine public investment and social spending.
The paper tests two predictions: (i) there is interdependence in CIT rate setting in Eastern Europe; and (ii) the recent CIT cut in Moldova may intensify tax competition in the region.
It finds evidence that during 1995-2006 countries in Eastern Europe strategically responded to changes in CIT rates in the region and that Moldovan zero CIT is likely to encourage further cuts in CIT.

Historical interdependence: Evidence covering 1995-2006 shows strategic responses among Eastern European countries to regional CIT rate changes.
Effect of Moldova's policy: The introduction of zero corporate income tax in Moldova is likely to encourage further CIT cuts in the region.
Impact on FDI: Foreign direct investment flows will not be much affected.
Impact on revenues and composition:
- Tax revenues are likely to decline.
- A shift in the composition of tax revenue may increase economic efficiency, but decrease equity.

Tax coordination:
- Tax coordination could help stem further declines in corporate taxation.
- Political difficulty: Tax coordination is politically difficult to achieve.
- Uncertain gains: Any gains from tax coordination might be modest and not certain to exceed the costs of coordination.
Without coordination:
- It is unclear what could stop corporate taxes from falling further absent coordination.

Subject: Competition, Corporate income tax, Expenditure, Personal income tax, Revenue administration
Keywords: CIT rate, rate, tax, tax rate, tax revenue, WP