Prospects for Land Rent Taxes in State and Local Tax Reforms
This paper develops a general equilibrium model of an economy that produces output using capital, labor and land as inputs. It further develops an approach that allows specific parameters in the model to be matched to data in such a way as to ensure that the model can replicate important economic realities in different settings and under different initial tax systems. This model is then applied to the U.S. states. Each state’s, as well as an “average” state’s, economic conditions and tax system are thus formed into a separate model, and policy simulations are performed for each of these models in order to identify different conditions under which reforms of different types are likely to succeed economically and politically. Each reform that is simulated involves an increase in taxes on unimproved land rents sufficient to cover the shortfall in tax revenues from a decrease in some distortionary tax on capital and/or labor. Under plausible yet conservative assumptions, large tax reforms that eliminate entire classes of distortionary taxes are found to be economically feasible in virtually all states, although prospects for such reforms are clearly better in some states than in others. Generally, reforms are most likely to succeed in states with high per capita taxes, low per capita incomes and in which reforms emphasize decreasing state and local taxes on capital rather than on labor—taxes such as corporate income or property taxes. In addition, the paper considers the political feasibility of such reforms by focusing on the likely impact on land values and thus land owners. Under plausible assumptions, reforms that lower taxation of capital result in either increases in land values or only modest declines, while reforms that lower taxes on labor lead to more substantial drops in land values. Finally, reforms of this kind are shown to hold more modest promise when states are assumed to conduct them simultaneously rather than in isolation.