Building on housing's 'wealth effect'
Rising home prices in the United States are expected to encourage consumer spending next year, giving a lift to the country's economy
Bloomberg in Washington
For the first time since the recession, there is potential for rising property values to boost consumer spending and give the United States' economy a nudge.
Housing's so-called wealth effect has been a drag on household purchases since 2008. A projected 2 per cent gain in home values next year will start to lift consumer spending in the second half of next year, according to Michelle Meyer, a senior economist at Bank of America in New York.
"There are a lot of encouraging signs in the housing market," Meyer said. "It will still be a gradual recovery unless you see the overall economy turn stronger, but price data continues to come in strong even into the summer and early fall. I definitely have become more convinced of the turn in housing."
Home prices in the second quarter increased 2.2 per cent from the previous three months, the best performance since the fourth quarter of 2005, according to S&P/Case-Shiller data. The lowest mortgage rates on record, a smaller inventory of available homes and a drop in distressed property sales have fostered the pickup.
Confidence among US homebuilders climbed in September to the highest level in more than six years, according to the National Association of Home Builders/Wells Fargo builder sentiment index released yesterday.
CoreLogic said last week that single-family home values in the US climbed 3.8 per cent in July from a year earlier, the biggest 12-month gain since August 2006.
Rising home values stimulate household spending through a channel economists call the wealth effect, which posits that homeowners lift spending in proportion to anticipated changes in wealth over time. A common rule of thumb is that for every dollar increase in housing wealth, consumers will buy an average of 4 cents more, according to Meyer.
The impact is widespread because of the role homes play in Americans' portfolios. Primary residences accounted for 30 per cent of total family assets in 2010, making housing "of greater importance than financial assets for the wealth position of most families", Federal Reserve researchers wrote in June using the most current data. About two-thirds of US homes were occupied by their owner - as opposed to renters - in the second quarter, Census Bureau data show.
Kathy Brill, who lives in Mechanicsburg, Pennsylvania, is responding to the improving real-estate market. After seeing the value of her home rise, Brill said she planned to use a home equity line of credit to invest in a new flat in Washington, where she works.
"We feel great about the economy," Brill, executive director of the non-profit Parent to Parent USA, said. But it will take time for the full impact of the recovery in housing to show up in consumer spending. Rising home prices spur spending with a lag, meaning the wealth effect would not show up this year, Meyer said.
Patrick Campbell, a homeowner in the Capitol Hill neighbourhoods of Washington, is beginning to consider spending more. The 48-year-old said he was more optimistic about spending since learning his home value had increased 12 per cent after falling below his purchase price during the recession.
"I have less anxiety," Campbell said, adding that he is considering a big purchase, like taking a holiday. "I don't have a working plan, but I still don't mind surfing for ideas now."
In another sign of the scope of the price gains, more than 1.3 million homeowners regained equity in their properties in the first half of this year, according to CoreLogic. About 22.3 per cent of homeowners with a mortgage owed more than their homes were worth at the end of June, down from 23.7 per cent three months earlier.
From 2007 to 2011, the slide in home values cut real estate wealth by US$6.7 trillion, an amount equal to about 43 per cent of the overall economy, UBS Securities economists led by Maury Harris wrote last month. Wealth may have grown US$600 billion in the first half of this year, they wrote, noting the spending boost might come sooner than Meyer's forecast.
Confidence has improved. In Fannie Mae's August National Housing Survey, 35 per cent of respondents said they believed that home prices would rise in the next 12 months, com- pared with 20 per cent a year earlier.
Borrowing against one's home, nonetheless, was harder for many people in the wake of the recession, dampening some of the wealth effect, Meyer said.
"The credit channel is an important part of the story as well," Meyer said. "That probably made the wealth effect more powerful during the boom, but I would argue that it's going to make the wealth affect more muted now."