Housing and consumption

Willem Buiter looks at the effect of housing on consumption. Amidst it all

Likewise, some current home owners may be planning to ‘trade down’ later in life, for instance when the family home gets replaced by a smaller property when the children leave home, following retirement or following the death of one’s spouse. For them the fundamental value of their endowment exceeds the present discounted value of their current and future planned consumption of housing services. Against that, there are also persons planning to trade up in the housing market.

This is probably a most important point. Given the number of people that seem to regard their property as their pension. There is an implicit belief that there will eventually be a mass trading down. Presumably, this will concertina the gap between family and smaller homes.

The other important point is

The argument for an effect of housing wealth on consumption over and above the pure wealth effect, is that housing wealth is collateralisable. Households-consumers can borrow against the equity in their homes and use this to finance consumption. If they are otherwise liquidity-constrained or credit-constrained, a boost to housing wealth would boost consumption by more than the pure wealth effect.

Buiter plays down this effect. However, outside credit cards, which are notoriously expensive, this is the cheapest and easiest way for the average person to access credit and liquidity. A rise in house prices provides a significant increase in the abililty to borrow, particuarly if, as is usually the case, it corresponds to an increase willingness on the side of financial instutions to offer credit.