Economists across the political spectrum almost unanimously oppose the home mortgage interest tax deduction. While I'm sure there are a few whom I've missed, I could only find a single professional economist who supports it. Greg Landsburg believes that capital income should be untaxed, based on the Chamley-Judd model and its subsequent refinements. He argues that the home mortgage interest tax deduction effectively cancels the distortionary tax on home mortgage interest capital income, and so represents a step in the right direction, although he would prefer a complete elimination of all capital income taxation.
But does housing really counts as "capital" in the Chamley-Judd sense? A textbook example of capital gains is a lender lending money to a borrower who uses it to buy sewing machines, tractors, etc. and start up a new company, which then turns a profit and allows the borrower to repay the loan with interest. In this example, everybody wins (the borrow, the lender, and the new company's customers), and the Chamley-Judd result that these kind of loans should not be taxed is very reasonable and intuitive.
But as Greg Mankiw's Intro to Economics textbook points out, housing is somewhat of an edge case between capital and consumption, and the fact that "capital" is traditionally defined to include housing is a bit of a historical accident. Morever, there is debate among economists about whether or not housing should be properly classified as capital. (Mankiw also wrote a New York Times column on this issue.)
I'm not familiar with the precise assumptions of the Chamley-Judd model, but does the main result that capital income should be untaxed include income from housing appreciation? People typically buy first homes (the only kind to which the mortgage interest deduction applies) for their own personal use, not primarily as investment opportunities. It's not obvious to me why housing purchases would lead to the creation of new economic wealth as more traditional capital investments do. In contrast to Landsburg, Uwe Reinhardt claims that
If pressed, the proponents of the capital-gains preference might concede that a tax preference for gains on transactions in residential real estate is hard to defend.
Under the assumptions of the Chamley-Judd model (or looser, less formal economic reasoning), is housing naturally classified as capital whose appreciation should not be taxed?