Friday, May 29, 2009
All signs point to a continued draw on home values, as foreclosures drive the markets and inventories start to creep back up. In contrast, equity markets have experienced a significant boom since January, but a struggling Treasury market harps its tune of economic uncertainty.
The question is: has enough wealth been recovered in equity markets to offset the losses in the Treasury and housing markets in order to stabilize consumption?
We will have to wait and see the exact Q1 wealth measure until the Fed's flow of funds realease on June 11. But for now, the chart illustrates a crude measure of the wealth effect on a monthly basis as the ratio of asset prices across two asset classes, tangible (housing) and financial (equity), to disposable personal income spanning October 2008 through March 2009.
Two tales are forming: equities are rising relative to income and housing maintains its descent relative to income. The diverging paths of the different asset holdings imply opposite wealth effects on consumption: rising equity values may possibly stabilize consumption, while reduced home values imply further consumption destruction.
Wealth is not the only determinant of consumption, but financial wealth is over 60% of the the households balance sheet (anywhere from pensions to 401k holdings to direct equity holdings), and its recovery will likely be important in consumption behavior going foward, especially in the upper income classes (see the B.100 household balance sheet). However, one cannot discount the ongoing negative effects on consumption coming from sharp declines of the remaining 38% of household assets, housing, and the very large effects from reduced home equity extraction.
To be sure, consumption grew an annualized 1.5% in Q1 2009; however, retail sales suggest otherwise for Q2 (April sales fell 0.4%). Likewise, the adverse wealth effects will only harm the economy further if wealth destruction causes households to reduce consumption further, raising the saving rate above the 4.4% in Q1 2009. I suspect that the saving rate still has a little upward momentum left in the pipeline.