The Diminished Effect of Housing on the American Economy

by 27 Feb 2013
In the constant boom-and-bust cycles of the American economy, a particular asset class rises above all others to stimulate the financial system. In the past, the asset classes ranged from pretty Dutch tulips to petroleum, corporate bonds, gold, and dubious tech stocks. Ruling asset classes invariably have the potential of becoming catalysts for wealth effect or economic bubbles. The U.S. housing market has been an extreme asset class as both a wealth effect creator and bubble accelerator. This is evident in the ruinous domino effect of the housing bubble as well as in the unwavering faith of common investors, consumers and government officials that an improved housing market equals economic salvation. This may have been the case in the past, but new research from economists at Credit Suisse is casting doubt on housing as an asset class that promotes the wealth effect. The Economic Panacea of Housing Average consumers have learned that housing creates jobs through construction, home improvement, investing, and property management. They have learned this much from the financial news media and government officials, and also through the wealth effect created by home equity. This is mostly behavioral; even if homeowners do not sell their homes at profit or take cash out with a refinance or a home equity line of credit, they are bound to spend more if they believe their home values are appreciating. The flawed thinking behind the wealth effect as it relates to housing is that the economic benefit can only last as long as home shoppers are interested. Credit Suisse economists believe that consumers and investors are seeing the limits of the wealth effect produced by housing. They believe that there is nothing that can prevent the burgeoning home price recovery from halting or declining as observed in 2009 and 2010, although consumers seem to be more accepting of that fact now. Other factors that point to the decline of housing as a purveyor of the wealth effect include the sharp swings in home sales and pricing. This is especially evident in housing markets such as Phoenix, where double-digit price growth and high demand have failed to send people out in droves to spend in cars, boats and other luxury items. Strict lending standards are also reducing the panacea status of the housing asset class; to this effect, borrowers are happy to modify or refinance their mortgages to lower monthly payments, but they are not overly interested about tapping into their home equity.



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