WP 22-34/R – Individual heterogeneity explains the link between declines in consumption and house values in 2006–2009. Credit constraints triggered by falling house prices and a few very constrained households are important. Wealth effects play no role.
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A previous version of this working paper was published in September 2022 which superseded Working Paper 19-06 – How Big Is the Wealth Effect? Decomposing the Response of Consumption to House Prices
We quantify the role of heterogeneity in households’ financial constraints in explaining the link between the large decline in aggregate consumption and the decline in house values between 2006 and 2009 using individual-level data. Constraints that are triggered by a decline in house values and a small fraction of consumers facing particularly severe constraints prior to the decline in house values explain 76 percent of the aggregate response. Local general equilibrium feedback and a decline in bank credit to consumers make up the remaining 24 percent. We find no contribution of a pure wealth effect in explaining the consumption decline.
