Tax Policy and Toxic Housing Bubbles in China

Jia, Pengfei and Lim, King Yoong (2018): Tax Policy and Toxic Housing Bubbles in China.

Abstract

This paper explores the effects of a government tax policy in a growth model with economic transition and toxic housing bubbles applied to China. Such a policy combines taxing entrepreneurs with a one-time redistribution to workers in the same period. Under the tax policy, we find that the welfare improvement for workers is non-monotonic. In particular, there exists an optimal tax at which social welfare is maximized. Moreover, we consider the welfare effects of setting the tax at its optimum. We show that the tax policy can be welfare-enhancing, compare to the case without active policies. The optimal tax may also yield a higher level of welfare than the case even without housing bubbles. Finally, we calibrate the model to China. Our quantitative results show that the optimal tax rate is about 23 percent, and social welfare is significantly improved with such a tax policy.

• Item Type: MPRA Paper
• Language: English
• Keywords: China, Economic Transition, Housing Bubbles, Welfare
• Subjects: O - Economic Development, Innovation, Technological Change, and Growth > O1 - Economic Development > O18 - Urban, Rural, Regional, and Transportation Analysis ; Housing ; Infrastructure; P - Economic Systems > P3 - Socialist Institutions and Their Transitions > P31 - Socialist Enterprises and Their Transitions; R - Urban, Rural, Regional, Real Estate, and Transportation Economics > R2 - Household Analysis > R21 - Housing Demand; R - Urban, Rural, Regional, Real Estate, and Transportation Economics > R2 - Household Analysis > R28 - Government Policy

References

Bai, Chong-En, Chang-Tai Hsieh, and Yingyi Qian. 2006. "The Return to Capital in China." Brookings Papers on Economic Activity, 2006(2): 61-88.

Caballero, Ricardo J., and Krishnamurthy, Arvind. 2006. "Bubbles and Capital Flow Volatility: Causes and Risk Management." Journal of Monetary Economics 53(1): 35-53.

Chang, Chun, Kaiji Chen, Daniel F. Waggoner, and Tao Zha. 2015. "Trends and Cycles in China's Macroeconomy." NBER Working Paper No. 21244.

Chen, Jie, Mingzhi Hu, and Zhenguo Lin. 2018. "Does Housing Unaffordability Crowd Out Elites in Chinese Superstar Cities?" Forthcoming in Journal of Housing Economics.

Chen, Kaiji, and Yi Wen. 2017. "The Great Housing Boom of China." American Economic Journal: Macroeconomics 9(2): 73-114.

Du, Zaichao, and Lin Zhang. 2015. "Home-purchase Restriction, Property Tax and Housing Price in China: A Counterfactual Analysis." Journal of Econometrics 188: 558-568.

Fang, Hanming, Quanlin Gu, Wei Xiong, and Li-An Zhou. 2015. "Demystifying the Chinese Housing Boom." In NBER Macroeconomic Annual 2015, Vol. 30, edited by Martin Eichenbaum and Jonathan Parker, 105--66. Chicago: University of Chicago Press.

Farhi, Emmanuel, and Jean Tirole. 2012. "Bubbly Liquidity." Review of Economic Studies 79: 678-706.

Galí, Jordi. 2014. "Monetary Policy and Rational Asset Price Bubbles." American Economic Review 104(3): 721-752.

Garriga, Carlos, Aaron Hedlund, Yang Tang, and Ping Wang. 2017. "Rural-Urban Migration, Structural Transformation, and Housing Markets in China." NBER Working Paper No. 23819.

Glaeser, Edward. 2013. "A Nation of Gamblers: Real Estate Speculation and American History." American Economic Review 103(3): 1-42.

Glaeser, Edward, Wei Huang, Yueran Ma, and Andrei Shleifer. 2017. "A Real Estate Boom with Chinese Characteristics." Journal of Economic Perspectives 31(1): 93-116.

Grossman, Gene, and Noriyuki Yanagawa. 1993. "Asset Bubbles and Endogenous Growth." Journal of Monetary Economics 31: 3-19.

Hellwig, Christian, and Lorenzoni, Guido. 2009. "Bubbles and Self-enforcing Debt." Econometrica 77(4): 1137-1164.

Hirano, Tomohiro, and Noriyuki Yanagawa. 2017. "Asset Bubbles, Endogenous Growth and Financial Frictions." Review of Economic Studies 84(1): 406-443.

Huang, Daisy J., Charles K. Leung, and Baozhi Qu. 2015. "Do Bank Loans and Local Amenities Explain Chinese Urban House Prices?" China Economic Review 34: 19-38.

Ikeda, Daisuke, and Toan Phan. 2016. "Toxic Asset Bubbles." Economic Theory 61: 241-271.

Kocherlakota, Narayana. 1992. "Bubbles and Constraints on Debt Accumulation." Journal of Economic Theory 57: 245-256.

Kocherlakota, Narayana. 2008. "Injecting Rational Bubbles." Journal of Economic Theory 142: 218-232.

Martin, Alberto, and Jaume Ventura. 2012. "Economic Growth with Bubbles." American Economic Review 102 (6): 3033-58.

Miao, Jianjun, and Pengfei Wang. 2014. "Sectoral Bubbles, Misallocation, and Endogenous Growth." Journal of Mathematical Economics 53: 153-163.

Miao, Jianjun, Pengfei Wang, and Jing Zhou. 2015. "Asset bubbles, Collateral and Policy Analysis." Journal of Monetary Economics 76 (Supplement): S57-70.

Samuelson, Paul A. 1958. "An Exact Consumption-loan Model of Interest with or without the Social Contrivance of Money." Journal of Political Economy 66: 467-482.

Santos, Manuel, and Michael Woodford. 1997. "Rational Asset Pricing Bubbles." Econometrica 65: 19-58.

Song, Zheng, Kjetil Storesletten, and Fabrizio Zilibotti. 2011. "Growing Like China." American Economic Review 101 (1): 196-233.

Song, Zheng, Kjetil Storesletten, and Fabrizio Zilibotti. 2014. "Growing (with Capital Controls) Like China." IMF Economic Review 62(3): 327-370.

Tirole, Jean. 1985. "Asset Bubbles and Overlapping Generations." Econometrica 53: 1499-1528.

Wang, Pengfei, and Yi Wen. 2012. "Speculative Bubbles and Financial Crises." American Economic Journal: Macroeconomics 4: 184-221.

Wang, Shing-Yi. 2011. "State Misallocation and Housing Prices: Theory and Evidence from China." American Economic Review 101: 2081-2107.

Wang, Zhi, and Qinghua Zhang. 2014. "Fundamental Factors in the Housing Markets of China." Journal of Housing Economics 25: 53-61.

Weil, Philippe. 1987. "Confidence and the Real Value of Money in an Overlapping Generations Economy." Quarterly Journal of Economics 102: 1-22.

Wu, Jing, Yongheng Deng, and Hongyu Liu. 2014. "House Price Index Construction in the Nascent Housing Market: The Case of China." Journal of Real Estate Finance and Economics 48: 522-545.

Wu, Guiying Laura, Qu Feng, and Pei Li. 2015. "Does Local Governments' Budget Deficit Push Up Housing Prices in China?" China Economic Review 35: 183-196.

Wu, Jing, Joseph Gyourko, and Yongheng Deng. 2012. "Evaluating Conditions in Major Chinese Housing Markets." Regional Science and Urban Economics 42: 531-543.

Wu, Jing, Joseph Gyourko, and Yongheng Deng. 2016. "Evaluating the Risk of Chinese Housing Markets: What We Know and What We Need to Know." China Economic Review 39: 91-114.

Zhao, Bo. 2015. "Rational Housing Bubble." Economic Theory 60: 141-201.