Working paper

Changes in the relative incentives to invest in housing: Australia, Sweden and the United States

URP Working Paper No. 31

15 Feb 1992

Tax restructuring occurred in many countries during the 1980s. These restructurings generally involved reductions in special tax incentives and subsidies and cuts in marginal income tax rates. This paper analyzes the tax and subsidy changes in three countries: Australia, Sweden, and the United States. It focuses on the relative incentives to invest in business and housing capital, but also looks at implications for international competitiveness.

The paper begins by addressing an important methodological question concerning the merits of effective tax rates versus user costs as statistics for analyzing the efficiency of capital allocation. We argue that user costs are preferable because effective tax rates depend on how the saver is taxed, even though the investor is concerned only with the pre-tax return he must pay to the saver. In other words, effective tax rates take into account factors irrelevant to the investor s capital allocation decision. We then outline our user cost methodology, discuss the values for the parameters used in the equations, and report the results of our calculations.

In reporting our results, we address two questions. First, did the tax and subsidy changes in the various countries increase or decrease the efficiency of the allocation of capital among business uses and housing and within the housing stock? Second, did the changes alter the incentives for business investment across countries, i.e., alter the international competitiveness of the countries? In regard to the first question, we conclude that Sweden and the United States greatly narrowed the range of user costs for owner-occupied housing across the income spectrum, providing incentives for a more efficient allocation of the existing housing stock. In contrast, incentives for substantial inefficiencies in the allocation of Australia s owner-occupied housing stock remain, owing to both a quite progressive personal tax rate schedule and the non-deductibility of home mortgage interest. The United States lowered owner-occupied housing costs of capital even further relative to those of business capital, reducing the overall efficiency of the total capital stock, while Australia did the reverse. Comparing the three countries, Australia went from the country with the highest corporate costs of capital to that with the lowest. Sweden, in contrast, went from the country with the lowest costs of capital to that with nearly the highest. Corporate costs in the United States increased, but by smaller amounts than did those in Sweden. From an international competitiveness perspective, Australia gained and Sweden lost.

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