Who benefits from using property taxes to finance a labor tax wedge reduction?

Abstract

We use a New Keynesian DSGE model with a rental housing market to evaluate how financing a labor tax wedge reduction through higher property taxation affects the real economy and welfare. We find that a labor tax wedge reduction generates favorable macroeconomic effects and improves international competitiveness, independent of the financing instrument used. Even though it negatively affects the housing market, property acquisition taxation outperforms all other instruments as the financing instrument in terms of welfare. This finding is the result of allowing households to decide whether to buy or to rent housing services and of the fact that, in this situation, they shift from purchasing to renting more housing services. Abandoning tax credit on mortgage interest payments effectively harms borrowers.