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Working Paper 310 - Tax Policy, Foreign Direct Investment and Spillover Effects
Due to multiple expected development benefits, attracting foreign direct investment (FDI) has been a key policy objective in many (developing) countries.1 Therefore, in order to attract FDI, governments have offered various incentives, including fiscal incentives (such as reduced corporate tax rates), financial incentives (such as grants and preferential loans), and monopoly rights; with the possibility of neighboring countries engaging in harmful competition - the socalled “race to the bottom”. The focus of this paper is to empirically explore the effect of tax incentives, specifically changes in corporate income tax (CIT) rates, on attracting FDI to African countries. In doing so, we analyze spillover effects, whereby changes in CIT rates in one country can have positive or negative effects on the level of FDI in neighboring countries.