Paternalism versus Veblen: How Should the Government Address the Concern for Relative Consumption in Housing?

Abstract

This paper compares the optimal tax policies of welfarist and paternalistic governments to address the concern for relative consumption in housing, where the former respects such concern, whereas the latter does not. The results of our analysis suggest that the optimal tax policies are identical. More specifically, we show that irrespective of a welfarist or a paternalistic government, the concern should be addressed with a property tax; the optimal property tax rate is proportional to the degree of the concern; and whereas the concern leads to higher income guarantees, it does not result in higher marginal income tax rates.

Keywords:

• Income tax
• paternalism
• property tax
• status good

JEL CLASSIFICATION:

• D6
• H2

Acknowledgments

The views expressed herein are those of the author and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. The author thanks Alan J. Auerbach, Kimberly R. Goodwin (the Managing Editor of this journal), Feila Zhang, and an anonymous reviewer for very helpful comments.

Notes

1 By status good, we mean that the owner of a status good not only derives intrinsic utility by consuming the good itself, but also derives social utility from comparing its value with the values of the status goods owned by the members of his comparison group.

2 More recent studies include, e.g., Tuomala (1990), Persson (1995), Ireland (1998; Ireland, 2001), Ljungqvist and Uhlig (2000), Dupor and Liu (2003), Abel (2005), Frank (2008), Aronsson and Johansson-Stenman (2008), Wendner and Goulder (2008), Micheletto (2011), Kanbur and Tuomala (2013), Eckerstorfer (2014), and Aronsson and Mannberg (2015).

3 One of his arguments is that Frank (2007) invokes the possibility of housing representing a status good to explain why Americans have chosen to live in ever larger and ever more expensive houses over the last five decades, even though the average household size has simultaneously declined over the same period. The more recent empirical evidence from China provided by Wei et al. (2017) also suggests that housing is a status good.

4 The term “atmospheric” externality is introduced by Meade (1952) to refer to the cases where the externality is created by the total consumption of a good.

5 Alternatively, one could also consider an economy consisting of two groups, and the size of each group is normalized to one.

6 As argued by Persson (1995), this simplification is in no way essential for the argument.

7 The income guarantee is also called “demogrant,” viz., a universal lump-sum grant transfer from the government to an individual when the individual’s before-tax labor income is equal to zero (Piketty & Saez, 2013).

8 There are different views about property tax (e.g., Aaron, 1970; Brueckner & Kim, 2003; Figari et al., 2017; Mirrlees et al., 2011; Poterba, 1984, Poterba, 1992; Yates, 1994). We model it as a tax on the value of housing services and presumably, larger houses provide more housing services.

9 See the Appendix for the detailed derivation.