Volume 9 • 2022 • Number transnational corporations investment and development

6 Data and empirical calibration
π
lrg
,
c
=
s
c
π
lrg
=
s
c
k
π
∗
lrg
,
k
=
φ
L
L
c
k
L
k
+
φ
W
W
c
k
W
k
+ (1
−
φ
L
−
φ
W
)
R
c
k
R
k
k
π
∗
lrg
,
k
PS
O
lrg
,
c
=
π
lrg
,
c
−
π
∗
lrg
,
c
γ
c
=
h
,
h

=
c
γ
ch
=
max
PS
O
lrg
,
c
π
lrg
,
c
,
0
γ
ch
=
γ
c
µ
h
=
PS
IN
lrg
,
h
h
PS
IN
lrg
,
h
γ
ch
=
β
0
+
β
1
ETR
c
+
β
2
ETR
h
+
β
3
gravity
ch
+

ch
(10)
3
(9)
We expect profit shifting to intensify as the ETR in host country c increases (
β
1
≥ 0) 
and the ETR in OFC h decreases
 
(
β
2
≤ 0), in line with workhorse models of profit 
13 
Three comments are in order. First, 
ETR
c
and 
ETR
h
are introduced separately (instead of 
ETR
c
 − ETR
h
directly) for reasons of flexibility. Second, we abstract from the possible non-linear effect of tax rates 
on bilateral profit shifting shares. Third, for the sake of simplicity, we also ignore the existence of 
interactions between OFCs and then proceed as if profit shifting between c and h
is unrelated to the 
characteristics of other OFCs.

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TRANSNATIONAL CORPORATIONS 
Volume 29, 2022, Number 2
120
shifting (Hines and Rice, 1994). Notice that for any given host country-OFC pair, 
taking the difference of equation (10) between the period before and after Pillar Two 
yields equation (6), which is then used to formally define our baseline scenario of 
partial (linear) reduction in profit shifting. In this respect, our empirical strategy is 
fully consistent with our initial modeling assumptions.
14
Results in table 1 confirm our hypotheses. Non-OFCs with high ETRs are more 
exposed to profit shifting, and OFCs with low ETRs tend to attract more profits. 
β
1 
and 
β
2
 
have expected signs and are statistically significant at the 1 per cent level. 
Evidence also validates that distance matters for profit shifting. Altogether, ETRs 
and gravity factors explain around 30 per cent of the variance in bilateral profit 
shifting shares. 
Source
: Authors’ estimations.
Note
: Standard errors, in parentheses, are heteroskedasticity-robust. * p < 0.10, ** p < 0.05, *** p < 0.01. ETR: effective tax rate. Profit 
shifting shares 
γ
ch
are calibrated with the profit misalignment method. ETRs are based on CbCRs (Garcia-Bernardo and Janský, 2022) 
and the list of offshore financial centres follows in Tørsløv et al. (2021).