Consumer Spending And Home Equity

(A recent article in The New York Times compared our housing market and subsequent consumer spending patterns of the past five years to a popular fable. )

The fable tells the story of a man who sees a swallow fluttering about at the end of winter and assumes summer is here and therefore sells his only coat for a little early-summer fun.

They compare this to the over-zealous home owners of a few years ago who, amazed at the rising values of their homes, used their home equity to purchase frivolous items such as big screen TVs and high-end vacation packages.

Just as the man in the fable cursed the bird who caused him to sell his coat when winter was not quite over yet, so are the people who took out large home equity loans and lines of credit, only to discover that the market is cooling, and they could now owe more than their home is worth.

The September 17, 2006 article, “A fable, adapted from Aesop,” tells of how many Americans could be in for some serious trouble up ahead in terms of equity and spending.

“Between the third quarter of 2005 and the first quarter of this year, home equity withdrawals were running at an annual rate of more than $850 billion, according to the Federal Reserve, and amounted to about 9 percent of disposable personal income. The personal savings rate declined into negative territory last year for the first time since 1933. And the economy surged.”

Now as the housing market has slowed down, analysts expected consumer spending to also reign in and slow down a bit; but this does not seem to be the case at all. In fact, it seems as if spending has gotten worse than it ever has before.

So the question to be asked now is: Are Americans spending money they do not really have?

“‘There is no sign of weaker consumer confidence raising the savings rate yet,’ wrote Charles Dumas, chief economist for the United States at Lombard Street Research, an economic research firm in London. ‘People have not yet started to pull in their horns in response to house price horrors.’”

Overall, things are not looking good for the housing market, but consumers do not seem to be very worried at all, in fact consumer spending has increased since the market has started to cool.

But reports show that not everyone who took out equity used it for frivolous purchases, many people actually used the money for their financial benefit and for things like paying off debt.

“One survey commissioned by the Federal Reserve of people who refinanced their mortgages in 2001 and the first half of 2002 found that only 45 percent had withdrawn any equity at all. About 26 percent of this money was used to pay down debt, 11 percent to buy stocks or other financial assets, 10 percent to buy real estate or make other business investments and 35 percent to finance home improvements. Only 16 percent of the money was used to finance consumption.”

This fact shows that the housing downturn may not have that big of an impact of the economy and consumer spending as originally predicted.

“In America, the fable is likely to have a happier ending. It may no longer be the best of times, but consumers still own their homes and their barbecue grills — and the swallow still lives.”

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