The Optimal Tax Treatment of Housing Capital in the Neoclassical Growth Model

Authors


  • We thank Markus Haavio, Seppo Honkapohja, Karlo Kauko, Erkki Koskela, Henry Ohlsson, Mats Persson, Tuukka Saarimaa, Jouko Vilmunen, Matti Viren, and two anonymous referees as well as seminar participants at IIES, HECER, Bank of Finland, and the Annual Meeting of the Finnish Economic Association for useful comments and suggestions. This research project was initiated during Eerola's visit at the Bank of Finland Research Department. She wishes to thank the Department for its hospitality during her visit. Both authors gratefully acknowledge financial support from Yrjö Jahnsson Foundation.

Abstract

Should housing capital be taxed like other forms of capital? We analyze this question within a version of the neoclassical growth model. We derive the optimal tax treatment of housing capital vis-à-vis business capital allowing for relatively general household preferences. In the first-best, the tax treatment of business and housing capital should always be the same. In the second-best, in contrast, the optimal tax treatment of housing capital depends on the elasticities of substitution between nonhousing consumption, housing, and leisure. This is because housing taxation may be used to alleviate the distorting effect of taxing labor. As a result, the optimal tax treatment of housing capital may be different from that of business capital. We complement these analytical results with a numerical analysis.

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