Wealth Channel Research Articles

Monetary Policy, Asset Prices and Consumption in China

This paper studies the wealth channel in China. Using the structural vector autoregression method, we find that a loosening of China’s monetary policy indeed leads to higher asset prices, which in turn are linked to household consumption. However, the importance of the wealth channel as a part of the monetary policy transmission mechanism in China is still limited. JEL Classification: E52, P24

To consume or not: How oil prices affect the comovement of consumption and aggregate wealth

This paper provides insight into how oil price movements affect the consumption choices of U.S. households through the wealth channel. Lettau and Ludvigson (2001) show that while consumption, asset wealth, and labor income share a common long-term trend; they substantially deviate from one another in the short run. In this paper, I show that these transitory deviations can be explained by fluctuations in the price of crude oil. Linear and threshold multivariate autoregressive models are used to measure the oil price effect. Oil price effect on the consumption to aggregate wealth ratio is robust to monetary policy effect, sub-period effect, and econometric specifications of oil price effect. Generally speaking, higher (lower) oil price will lead to a decrease (increase) in the proportion of aggregate wealth consumed. In addition, the magnitude of the oil price effect is asymmetric and sub-period dependent. Oil price effect was higher before the 1980's than in succeeding periods.

Booms and Busts: Consumption, House Prices and Expectations

Over much of the past 25 years, house price and consumption growth have been closely synchronized. Three main hypotheses for this have been proposed: increases in house prices raise household wealth and so their consumption; house price growth reduces credit constraints by increasing the collateral available to homeowners; and house prices and consumption are together influenced by common factors. Using microeconomic data, we find that the relationship between house prices and consumption is stronger for younger than older households, contradicting the wealth channel. We suggest that common causality has been the most important factor linking house prices and consumption.

House Prices, Consumption, and Their Common Causes

This paper provides evidence that common drivers of consumption and house prices, as opposed to wealth or collateral channels, are responsible for most of the positive correlation between the two series. Using micro data from the PSID and the CEX, I illustrate the relative importance of the common causality channel using three different methods. First, I show that consumption elasticities for owners with respect to statewide housing appreciation can be reduced by about half with the inclusion of controls for the per capita income and the unemployment rate of the household's state of residence. In the second approach, I use renters as a control group and show that owners do not display any significant difference in their consumption response to house price changes. Lastly, the paper presents evidence showing that consumption elasticities are statistically and economically significant with respect to broad changes in house prices, at the state or MSA levels but are insignificant with respect to self-reported owner estimates. I argue that the differential effects found using these alternative measures is the result of a trade-off between two different types of noise. While owners' estimates contain a great deal of sampling noise, the change in HPI is a noisy measure for individual housing appreciation because the substantial heterogeneity in individual appreciation rates within a locality. If owners make consumption and savings decision based on perceived wealth, owners' estimates are the appropriate measure to estimate wealth effects. If heterogeneity in individual home appreciation rates is significant, change in HPI is a poor measure for changes in household housing wealth, though it could still be spuriously correlated with consumption due to common drivers.

Policy transmission and the consumption-wealth channel

This study investigates the effects of monetary policy on consumption through the wealth channel. Based on a structural VAR framework it is found that endogenous changes in wealth, due to an increase in the short-term interest rate, have little impact on consumption. This result means that the substantial portion of the real effect of a short-term interest rate shock to consumption is attributable to its effect through channels other than wealth. Also, the above result suggests that wealth is influenced not only by the interest rate but also by the mounting price pressures, to which the Central Bank endogenously responds.

Wealth and Asset Price Effects on Economic Activity

Do asset prices affect real activity? This question has taken on a new importance in recent years, as asset values first surged at the end of 1990s and, thereafter, dramatically retreated. This report reviews the available theoretical and empirical evidence regarding asset price and wealth effects in Europe and some other major economies. The main focus of this report is on consumption effects via the wealth channel, reflecting the bulk of literature on the effects of asset prices. However, asset price effects on investment via the Tobin's-Q channel, balance sheet and confidence channels are also reviewed. The available evidence supports the view that the wealth channel is the most important of various channels. There is little empirical evidence indicating that the Tobin's-Q, balance-sheet and confidence channels play any major independent role in the transmission of asset price effects to economic activity.

The Stock Market, the Housing Market and Consumer Behaviour

After the buoyancy of stock markets in the late nineties, share prices have generally trended downwards since 2001. By contrast, house prices have continued to increase, rising more rapidly than the general price level in several countries. These developments have led to renewed interest in the impact of asset prices on consumption and overall demand. This paper analyses the roles of household financial wealth and housing wealth across G7 countries (with the exception of Germany), in determining private consumption. It provides some estimates of the sensitivity of consumption to various forms of wealth and tests whether these sensitivities have changed over time. The impacts of recent financial and housing market developments on consumption are also quantified. The main results are, first, that for all countries, wealth channels are identified, second, that these effects vary significantly across countries, and third that for some countries, their importance has tended to rise markedly over the recent past.

Natural Resource Abundance and Human Capital Accumulation

This study examines indicators of human capital accumulation together with data for natural resource abundance and rents in a panel of 102 countries running from 1970 to 1999. Mineral makes a positive and marked difference on human capital accumulation. Matching on observables reveals that cross-country results are not driven by a third factor such as overall economic development. Political stability does seem to affect both human capital accumulation and subsoil wealth, but not enough to overturn my conclusions. Instrumentation reveals that reverse causality running from education to natural resources does not drive the results. Estimation of a panel VAR indicates that, over the three decades, a $1 shock to resource rent generates five cents of extra educational expenditure per year. These results are consistent with Hirschman's conjecture that enclave economies have weaker production leakages but stronger government revenue linkages than other activities. The wealth channel identified in this paper implies that caution should be exerted when discouraging countries from exploiting their mineral wealth, especially for countries where human capital is scarce.

Does Stock Market Wealth Matter for Consumption?

This paper explores the household behavior that underlies the link between wealth and consumption at the aggregate level. One possibility is that changes in wealth directly cause changes in consumption through their effect on households' contemporaneous budget sets; another possibility is that they merely predict changes in consumption because they signal changes in future income. Based on analysis of household-level data from the Consumer Expenditure Survey, we find that direct wealth effects begin to show up relatively quickly and continue to boost consumption growth for a number of quarters, in line with aggregate estimates. In contrast, we find that the indirect wealth channel is not an important determinant of consumption growth. We also estimate that an additional dollar of wealth leads households with moderate securities holdings to increase consumption between 5 cents and 15 cents, with the most likely gain in the lower part of this range.

Does Stock Market Wealth Matter for Consumption?

This paper explores the household behavior that underlies the link between wealth and consumption at the aggregate level. One possibility is that changes in wealth directly cause changes in consumption through their effect on households' contemporaneous budget sets; another possibility is that they merely predict changes in consumption because they signal changes in future income. Based on analysis of household-level data from the Consumer Expenditure Survey, we find that direct wealth effects begin to show up relatively quickly and continue to boost consumption growth for a number of quarters, in line with aggregate estimates. In contrast, we find that the indirect wealth channel is not an important determinant of consumption growth. We also estimate that an additional dollar of wealth leads households with moderate securities holdings to increase consumption between 5 cents and 15 cents, with the most likely gain in the lower part of this range.

AN INVESTIGATION OF THE SHORT RUN EFFECTS OF CAPITAL GAINS ON HOUSEHOLD CONSUMPTION AND SAVING*

THIS DISSERTATION EXAMINES one of the most controversial channels of monetary policy, the wealth effect, insofar as it affects household saving and consumption as modeled by the MPS model. Using cross section survey data, it is possible to provide an independent alternative estimate of the impact of changes in wealth on consumption for the household sector from those estimated exclusively through the use of time series data. The theoretical and empirical literature on the consumption function is reviewed and the shortcomings of the time series approach are examined insofar as they would affect the results reported in the published studies. The short run impact of capital gains on consumption is likely to be biased substantially towards zero due to measurement error. Thus, an alternative approach is justified. This dissertation employed a theoretical model and a cross section survey data set, the latter with some success. The data employed is from the Federal Reserve Board Survey of Changes in Family Finqnces and the Survey of Consumer Characteristics, which provided detailed information for 2159 households on income, saving and wealth (as well as many other variables of interest). The wealth data was highly detailed including the exact number of shares of each stock held by each household. Given such information, it is possible to estimate reliably capital gains (largely unrealized and unanticipated) on a major and the most volatile portion of household wealth. Thus it was possible to estimate the impact of 1963 capital gains, as they were distributed over the year, on 1963 saving. The regression results imply that between 2.5 and 3.2 per cent of 1963 capital gains found their way into 1963 spending streams. This estimate of the impact of unanticipated capital gains is only slightly below the impact implied by the latest unpublished version of the MPS model, the only model which incorporates a wealth effect. It is, however, substantially larger than all the other time series studies which have attempted to estimate a short run capital gains effect. These results were found to be robust with respect to sample size and across numerous regression equations. Many observations were found to be of dubious quality but it was possible to purge the sample of many of these observations to obtain more reliable sub-samples. Although the basic regressions were subject to heteroscedasticity, as is common for cross section saving regressions, the capital gains effect implied by regressions which had been adjusted for heteroscedasticity were insignificantly smaller. An attempt was made to adjust for household tastes which tend to bias the effect of wealth on saving but, unfortunately, this procedure failed. Nevertheless, there is little reason to believe that the capital gains effect is biased significantly in either direction and the findings confirm the sizeable capital gains effect included in the MPS model. Thus, this analysis suggests that the wealth channel of monetary policy is very