A short article on the wealth effect.
http://www.economist.com/businessfinance/displaystory.cfm?story_id=14365068
Preview:
…Put another way, every $1 increase in home values led to a rise of 25-30 cents in borrowing. That is far bigger than some long-standing estimates of the wealth effect from rising asset values, which are in the 3-5 cent range… Funds raised against rising home equity were not used to pay down other debts. And fewer households invested in financial assets, such as shares and bonds, when house prices were rising. All this suggests that almost all of the $1.45 trillion the authors estimate was borrowed against rising home equity was used for spending.
This suggests huge over-borrowing. Prospects for a sustained recovery look dim if households that are most inclined to spend are mired in negative equity.
(I calculate that $1.45T to be about 10% of GDP that will not recur as it was borrowed from the future, and probably not yet repaid).
