How Large is the Housing Wealth Effect? a New Approach
21 Pages Posted: 13 Dec 2006 Last revised: 14 May 2007
Date Written: December 2006
This paper presents a simple new method for estimating the size of 'wealth effects' on aggregate consumption. The method exploits the well-documented sluggishness of consumption growth (often interpreted as 'habits' in the asset pricing literature) to distinguish between short-run and long-run wealth effects. In U.S. data, we estimate that the immediate (next-quarter) marginal propensity to consume from a $1 change in housing wealth is about 2 cents, with a final long-run effect around 9 cents. Consistent with several recent studies, we find a housing wealth effect that is substantially larger than the stock wealth effect. We believe that our approach is preferable to the currently popular cointegration- based estimation methods, because neither theory nor evidence justifies faith in the existence of a stable cointegrating vector.
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