Amir Sufi and Atif Milan of the University of Chicago Booth School of Business argue in today’s Wall Street Journal that the recent decrease in consumer spending has been directly fueled by a drop in housing prices. The article is a response to a piece last week by Charles Calomiris and several other economists which suggested the relationship between the two has been overstated. From Sufi and Mian:
…We find striking results: from 2002 to 2006, homeowners borrowed $0.25 to $0.30 for every $1 increase in their home equity. Our microeconomic estimates suggest a large macroeconomic impact: withdrawals of home equity by households accounted for 2.3% of GDP each year from 2002 to 2006.
Our results demonstrate that homeowners in high house price areas borrowed heavily against the rise in home equity from 2002 to 2006. We also provide evidence that real outlays were a likely use of borrowed funds. Money withdrawn from home equity was not used to buy new homes, buy investment properties, or invest in financial assets. In fact, homeowners did not even use home equity withdrawals to pay down expensive credit card debt! These facts suggest that consumption and home improvement were the most likely use of borrowed funds, which is consistent with Federal Reserve survey evidence suggesting home equity extraction is used for real outlays.
The bottom line for Sufi and Mian is clear, unless the housing market recovers, consumer spending will continue to fall.