New wealth effect estimates

We naturally focus on jobs and income as drivers of consumer spending, but for a long time economists have argued that a person’s wealth is also a determinant of spending. Do we know how this wealth effect has played out during the recent ups and downs of our economy? N.C. State University economist Mike Walden responds.

“Where the focus has been is on housing wealth — the wealth that people have, homeowners have, in their homes, so-called home equity.  And, of course, a little history here, from the 10 years 1997 to 2006, we actually had a big gain in housing prices and housing wealth. In fact, housing prices doubled.

“But then since 2006 up until very recently, those housing prices have fallen back by about a third. And so we’ve had big swings in housing wealth. And economists have … long thought, based on previous research, that this should have had an impact on consumer spending.

“Now we have new research from the National Bureau of Economic Research, which is a non-profit, non-governmental body, that has looked at the data over this time period and come to the conclusion that, yes, these fluctuations in home equity did cause a big change in consumer spending, specifically the doubling of housing prices from ’97 to ’06 resulted in a 4 percent increase in consumer spending, but the one-third drop in prices and wealth from 2006 until recently was associated with a 3.5 percent decrease in consumer spending.

“And I think what that tells us … is that this is a big reason why the recession was so bad. Now on the upside of this, we have seen housing prices coming back in the last year, housing wealth going up. That bodes very well for consumer spending in the future.”