Boosting taxes for boasting about houses? Status concerns in the housing market

In this paper we investigate the implications for housing taxation when households have status concerns for residential housing. For this purpose we introduce a residential housing sector and status concerns for housing into a neoclassical model with heterogeneous agents. First, finding that status concerns exert a negative externality, we calculate a progressive Pigovian tax schedule that corrects for the externality. Implementing the tax schedule is associated with a moderate aggregate welfare gain, but has a sizable and diverse impact on household groups’ welfare. Second, we find that when the utilitarian social planner is constrained to housing taxes, Pigovian taxation is not constraint efficient. We show that the welfare maximizing tax of the constrained optimum is always higher than the Pigovian tax, and we analyze the mechanism behind this finding. Our results have strong implications for the optimal taxation of residential housing.