How the fall of home prices deflates the consumption balloon
Posted by nithi.vivatrat on June 25, 2009
I’ve always felt that a balloon was a better analogy than a bubble (in no way am I claiming to be the first) to describe an economic contraction in a particular sector or area, such as housing or consumer spending. It’s not that the market in question “pops” and disappears — it just deflates to a different size after the “air” get sucked out.
The lost “air” in our economy was inflated consumer spending fueled by borrowing — borrowing largely leveraged against rising housing prices. Thus, as housing prices have fallen, consumer spending has dropped as well — causing this significant contraction of our economy. If you don’t believe me, see today’s post by Atif Mian and Amir Sufi of the University of Chicago Booth School of Business in WSJ Real Time Economics (thanks to CalculatedRisk for highlighting the post). A key finding:
Using this methodology, 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.