In our globalized world, it’s increasingly common for companies to invest internationally in a process known as foreign direct investment (FDI). A common form of FDI is to invest in countries with favorable tax policies as this lowers the tax obligations of companies.

It’s an approach that may have negative consequences on the economic productivity of both the home country of the company and the country it invests in, however, as new research from Temple University explains.

“The previous research on this strategic issue is a bit contradictory. It requires a more objective assessment to understand the effects of this strategy on the productivity of the host countries,” the researchers explain.

“We reasoned that these effects may depend on the position of the multinational company’s home country in the global foreign direct investment network. At the same time, countries that are connected to more tax havens in the network may benefit from more inflowing foreign direct investment.”

Impact investment

The researchers analyzed investment data from over 200 countries between 2002 and 2012 to help them construct a global FDI network and evaluate the economic productivity of both home and host country using “total factor productivity”, which measures the output that is produced from a fixed amount of input.

The analysis found that routing FDI via tax havens had different impact on the productivity of the home and host country. When companies spread investments across a range of tax havens, this reduced the productivity of the home country, but it also benefitted the host country, which saw a rise in its productivity.

“Visualizing the global foreign direct investment as a network allowed us to understand how it affects different countries and stakeholders,” the researchers explain. “For example, the analyses also revealed that investments flowing to and from prominent and central tax havens are beneficial for the productivity of both, the host and home countries.”

To gain further insights, the authors classified these results based on the income level and developmental status of the countries in the network. They found that the benefits of incoming foreign direct investments from prominent, well-connected tax havens were mainly felt by less developed and low-income countries.

These findings highlight that being connected to a global tax haven network has benefits for less developed countries, and that the use of tax havens by multinational companies is not necessarily negative.