The arm's length principle and tacit collusion

► Transfer prices govern intra-firm transactions among the firm's divisions. ► In oligopoly, optimal transfer prices differ from those charged to unrelated buyers. ► The arm's length principle (ALP) restricts such strategic use of transfer pricing. ► We study how the ALP changes the nature of dynamic competition in oligopoly. ► The ALP renders tacit collusion more stable than when firms are not subject to it.