DP5081 Offshore Financial Centres: Parasites or Symbionts?

Author(s): Andrew K Rose, Mark Spiegel
Publication Date: May 2005
Keyword(s): asset, competitive, cross-section, data, empirical, haven, money, tax, theory
JEL(s): F23, F36
Programme Areas: International Macroeconomics, Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=5081

This paper analyses the causes and consequences of offshore financial centers (OFCs). Since OFCs are likely to be tax havens and money launderers, they encourage bad behaviour in source countries. Nevertheless, OFCs may also have unintended positive consequences for their neighbours, since they act as a competitive fringe for the domestic banking sector. We derive and simulate a model of a home country monopoly bank facing a representative competitive OFC which offers tax advantages attained by moving assets offshore at a cost that is increasing in distance between the OFC and the source. Our model predicts that proximity to an OFC is likely to have pro-competitive implications for the domestic banking sector, although the overall effect on welfare is ambiguous. We test and confirm the predictions empirically. Proximity to an OFC is associated with a more competitive domestic banking system and greater overall financial depth.