Second-best urban tolls in a monocentric city with housing market regulations

This paper investigates second-best congestion pricing in a monocentric city characterized by distortionary regulations in the housing market (building height restrictions, no-development areas and property taxation). We demonstrate that the welfare gain of a Pigouvian tax may first fall and then increase as building height restrictions become more stringent. For example, a Pigouvian toll imposed in a city without restrictions may produce up to 40% larger welfare gains than Pigouvian tolling in a city with a mild, uniform in space, floor-to-area ratio restriction. In the presence of a tax-induced distortion, deviations of the Pigouvian toll can lead to non-negligible welfare gains. We discuss the important policy implications of the above findings.