December  2008 VOL. 2

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American consumers react more radically to changes in their housing wealth than to changes in the size of their bank accounts, according to research by economists from the University of Southern California Lusk Center for Real Estate and the University of California Los Angeles Ziman Center for Real Estate.

With housing values continuing to slide in most metropolitan areas across the U.S., the research suggests a 10 percent decline in housing wealth from 2005 highs would result in a $105 billion or 1.2 percent contraction in personal consumption expenditures.

The research suggests sizeable risks to the U.S. economy from decreased consumer spending caused by a retrenchment in house values. The three-year study, to be published in Regional Science and Urban Economics early next year, closely analyzed the spending habits of homeowners based on their property values and the value of their investment portfolios. Using highly detailed micro data on household consumption behavior and financial wealth, the researchers evaluated the variability in spending compared to changes in the market value of household assets and financial net wealth.

“Findings indicate that the ongoing and unprecedented contraction in housing wealth—when coupled with the very sizable recent drop in financial wealth—is likely to have significant depressive effects on consumer spending. As consumer spending has been the lynchpin of the U.S. economy, such declines suggest a difficult near-term downward adjustment for both consumers and for the U.S. economy more generally,” says Stuart Gabriel, Ph.D., director of the UCLA Ziman Center who co-authored the paper with Gary Painter, Ph.D. director of research at the USC Lusk Center, and Raphael Bostic, Ph.D, associate director of the USC Lusk Center. 

“Given our results, the recent housing price declines reinforce the extensive losses in the stock market and layoffs in the financial and automotive sectors. Taken together, they increasingly suggest that there will be longer-term effects for the U.S. and global economies,” Bostic says.