Double Taxation Treaties: A Double‐Edged Sword in Attracting Real and Phantom Investments?

Key Points

DTTs significantly increase foreign direct investment while raising concerns over phantom investments, particularly in developing countries.
The study demonstrated that DTTs promote phantom financial transactions lacking substantive economic value.
Employing a gravity model, the analysis utilized bilateral data from 220 countries during 2009–2017.
The findings highlight potential loopholes in DTTs that may encourage tax-motivated investment flows.

Abstract

ABSTRACT Double taxation treaties (DTTs) are bilateral agreements designed to alleviate double taxation, enhance international trade and attract foreign direct investment (FDI). Despite these intentions, the actual effectiveness of DTTs remains controversial. Using a gravity model and bilateral data from 220 countries spanning 2009–2017, this study examines the dual impact of DTTs on both real and phantom investments. The results indicate that while DTTs increase real FDI, they also significantly boost phantom investments—financial transactions that lack substantive economic value, particularly in developing countries and tax havens. These results remain robust across alternative estimators and controls. Moreover, the distinction between real and phantom FDI enables a clearer assessment of DTT effectiveness. Our findings underscore the need to address DTT‐related loopholes to limit tax‐motivated flows and promote more productive and economically sustainable investment.

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