Taxes and allowances in a dynamic equilibrium model of urban housing with a size—quality hierarchy

Abstract

The paper investigates the effects of an income tax, a property tax, and a housing allowance in the Chicago Prototype Housing Market Model (CPHMM), a dynamic, perfect foresight simulation model of the housing market with a size—quality hierarchy and with multiple household groups. The income tax discriminates against housing conversions with large nonfinancial costs, since these are not deductible. In a perfectly competitive housing market, each housing policy in isolation is distortionary. However, the excess burden of a pair of jointly implemented policies may be less than that for one of the policies in isolation. For some realistic parameter values, a housing allowance aimed at improving the average housing quality consumed by the poor improves efficiency by offsetting part of the deadweight losses of the taxes. The allowance benefits both consumers and landlords in the targeted submarkets, but it hurts landlords on the average by inducing substitution from the non-targeted towards the targeted submarkets.