The Effects of Inflation-Induced Tax Increases on Stock and Housing Prices

Abstract

This paper explores the contention that the dramatic increase in the real price of housing experienced during the 1 970s was a consequence of the interaction of increasing inflation with a non-neutral tax system that discriminates against corporate held assets. Within the context of a dynamic rational expectations two-sector (housing services and a corporate produced background good) model in which capital allocation responds to changes in the corporate tax rate, it is demonstrated that there is no reason to expect housing prices to rise with inflation-induced increases in taxes. I. Introduction The 1970s witnessed a striking change in the real prices of the two principal assets held in the U.S. economy. Between 1970 and 1980 the Standard and Poor's Stock Price index increased by 48 per cent; in the same period the homeownership portion of the consumer price index increased 144 per cent and the Bureau of Census Index of Homeownership Costs increased by 163 per cent. These dramatic price movements represent a striking change in the valuation of household portfolios in the space of a decade. A number of recent papers have explained the rise in the real price of housing (also of land and gold) as