| In the late 1980's, the bottom fell out of the commercial office real estate market. Accepted wisdom among many real estate investors is that this crisis was brought about by myopic overbuilding. This paper takes a contrary view, namely that investors were perfectly rational in their development decisions, but that these decisions were distorted by perverse tax incentives. The Tax Reform Act of 1986 (TRA 86) was designed to substantially reduce the purely tax shelter value of real estate. This paper develops a structural model of the commercial office real estate market, separately identifying landlords, tenant firms, and property developers. The model is estimated using a panel of data from 24 U.S. markets, spanning a period of (roughly) 1985:4 through 2001:1. We then perform the counterfactual of applying the tax regime that obtained before 1986 to estimate the tax shelter value eliminated by TRA 86. Economically significant values would suggest that the construction was not irrational, but instead motivated by tax considerations. |
