Housing markets with foreign buyers

There are cities in the world which have experienced substantial numbers of foreign buyers in the local housing markets, thereby pushing up the real estate prices to the levels beyond the affordability of local residents. To suppress foreign influences in the forming of housing bubbles, governments have resorted to short-term measures of stamp duty or raising the duty rate for non-local buyers, increasing down payments and restricting or even forbidding non-local purchases. These new measures may help contain the demand for housing, but short of being the first-best optimal housing policy for an open economy with significant non-local and foreign buyers. We argue that the first-best policy is to tax non-local and foreign buyers and then use the tax revenue generated to subsidize domestic low- and middle-income buyers. The optimal tax rate under this compensated scheme is smaller than the tax rate under the lump-sum transfer of tax revenue to all residents. © 2014 Springer Science+Business Media New York.