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If I asked you to consider the following, how would you react: at the margin, someone who lives in San Francisco is no happier/better off than someone who lives in Gary, Indiana. To a non-economist this might be shocking given the mental image we have of the city by the Bay as it compares to the flaming smokestacks of the Lake Michigan industrial town in decline. But to an economist the idea would be completely pedestrian.


Well, for much the same reason that you should not expect a case of Budweiser to sell for $30 in New York and only $8 in Pennsylvania. Since people are always looking for a deal, folks would quickly snap up PA beer and bring it to NY until it was no more advantageous to get beer in one place or another. The same happens in housing, job choice, or in any other market. So, if at the margin living in San Franciso was MUCH more attractive than living in Gary, then migration would move that way. In fact, the prices in San Francisco would rise to capture this and the prices in Gary would fall to capture this so that it would make no difference at the margin for a person to live in one or the other.

Again, I think this seems unobjectionable to folks once they grasp the concept of arbitrage. The same idea applies to how house prices adjust to “compensate” us for living near dirty air, or to “compensate” us for living near beautiful amenities.

With that in mind, I’d like to propose that the level of property taxes in your town does not (cannot in fact) alter your well-being at the margin. You hear a lot of people (me in particular) that gnash their teeth about oppressively high property tax rates and the burden it places on a typical person. But think about the indifference principle again. Take my town of Bushnell’s Basin, where the average home probably costs about $200,000 and the average taxes are $7,000 per year. People make housing decisions (ignoring the quality of public amenities) with their total costs of living in mind. If the property taxes in my town were dropped to zero dollars per year, would that mean each and every one of us would end up with $7,000 additional dollars in our pocket each and every year? Not a chance. Now, living in Bushnell’s Basin would be at the margin more desirable than living in other places. People would here until again, they were no more happy being in Bushnell’s Basin than they were before the tax decrease. In other words, prices would rise to well over $200,000 leaving me no better off than I was before the tax decrease (ignoring the one-time gain to current homeowners, which would be offset by one-time losses to homeowners in places of decreasing demand).

So, perhaps paradoxically, in this very limited view of the world property taxes do not matter. Our well being is no different in a world with $1,000 annual taxes and one with $7,000 annual taxes. There are of course many good reasons to be skeptical of extending this claim beyond this post – such as discussing the efficiency costs of the tax system itself, how productively the localities put the money to use (surely better than the state and surely better than the feds), the public choice aspects to having large amounts of government employment and government contracting, the principle that I can spend my own money, etc. But ignore that for now. If we accept that the long term real rate of interest is something like 3%, and that we get no benefits for every $1 of government spending of our tax revenues (update: I originally miswrote my assumption as $1 for $1, but I intended to make the argument against anti-property tax / anti-gov types) then if my taxes were lower by $6,000 per year, that is the equivalent of being given an asset that pays me $6,000 every year. How much would you pay for such an asset when rates are 3%? How about $200,000! So, what you should expect to see in this world is that home prices in my town would rise from $200,000 to $400,000 to compensate for the lower taxes – leaving me no better off.

Of course there are interactions with tax policy that matter and there is a question about what the real rate of interest really is, but this is meant for illustrative purposes. You can certainly argue that taxes are evil or bad or make you worse off, but you are going to have to try to make a far more sophisticated case than, “taxes take money from me, I am worse off when money is taken from me, therefore taxes are bad.” That does not exactly follow.

7 Responses to “In Which My Dogmatic Libertarian Friends Will Toss Me Overboard”

  1. JPinto says:

    Hey Rizzo, I just have a question about the premise of this post:
    Is the arbitrage of Budweiser really applicable to the costs and benefits of choosing where to live? I ask because buying the cheaper Budweiser in one location and reselling elsewhere makes perfect sense because all Budweiser is the same. One can of Budweiser is worth the same amount to me no matter where it cam from. But the issue of where you live is different. Sure, the amenities of SF are generally speaking more attractive which accounts for the higher costs of housing versus Gary IN, but for any given person the personal preferences might be such that given the opportunity to move from SF to Gary, they would still not move even if living in Gary is much, much cheaper. Actually, i think this would be true even you gave them a special non-market price of free housing in Gary.

    It’s easy to say one would be willing to make trade-off between two substitute goods, both of which you like somewhat. For example hot dogs and hamburgers. I’d be willing to eat far fewer hot dogs if hamburgers were much, much cheaper. But are two choices of where to live really substitutes for each other? There are things in SF that you can’t get in Gary not matter how hard you try, no matter how much more money you saved on housing.

    By the way this is not to say that the part about lowering property taxes won’t make you better off in the long run, but I feel like it only works for two similar (and probably nearby) locations.

    PS: I like your blog. I read frequently and hope all is well!

  2. Tom Davis says:

    When someone is deciding whether or not to buy property, the property taxes don’t matter. But as the rates or evaluations change they do matter. When property taxes go up, they might in fact go up to a point that the owner would wish they had bought some other property, but not so much as to offset the costs of selling/buying/moving.

  3. blink says:

    Provocative, yes, but I disagree with this key point: “ignoring the one-time gain to current homeowners, which would be offset by one-time losses to homeowners in places of decreasing demand”. Unless you have in mind a model of (severely) myopic home-buyers, there is no offset!

    As your numerical example shows, a $200K house with a $6K property tax liability is essentially equivalent to a $400K house with no property tax; as a potential buyer, I am indifferent between the two. Therefore, switching from one regime to the other is entails no change in demand anywhere.

  4. wintercow20 says:

    How does the price of my house rise from $200k to $400k?

    • blink says:

      The *real* price of the house does not change. It is a $400K house to begin with, it just happens that $200K is tied up in the bucket called “property taxes”. Since the effective price does not change, there is no need to consider changes in demand anywhere.

      A week ago you argued a similar point about wage compensation and health benefits with respect to UR employees. If benefits go up and wages down equally, there is no need to consider changes in demand for workers. Of course, reactions there might lend support for the myopia interpretation…

  5. Harry says:

    Wintercow makes a good point, qualifying it by saying it is nevertheless important how wisely the property taxes are spent.

  6. Dan Even says:

    The anlaysis isn’t even valid for the beer.
    The problem is, the cost of moving to a new city is not trivial. Typically the real estate agent alone will be 5%. There are often sales taxes, and there are always lawyer fees, the moving company, the time it takes to choose the new house, the disruption to employment, friends, family, etc. and so on. Moving is sufficiently annoying and expensive that it provides a substantial barrier beyond the price differential. Before I will move to a new city the differential in financial benefit will have to be significant. Personally, I am unlikely to move to a new city for an amount of only the $6000 you mention.
    Beer is similar. The cost of transporting a case of beer from where it’s brewed to where it’s consumed is going to produce differences in the cost of the beer. The farther from the brewery, the harder the transport process, the larger the cost difference. And taxes are different in different locactions. Does that mean I’m willing to travel to Millwaukee to get beer and Buffalo to get chicken wings? Not usually.
    But right at the start you make a claim that is not in evidence. You claim that the margin is the same in different cities. Possibly the margins in different cities will trend towards eachother over decades. But the equalization processes are much slower than the rate at which a city can increase taxes.

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