Home Prices and Household Spending

This paper explores the positive relationship betwen home prices and household spending by following a panel of Australian households over the period 2003 to 2010. There are three hypotheses put forth in the literature to explain this relationship: (1) increases in home prices raise spending via a 'traditional wealth effect'; (2) increases in home prices raise spending by easing credit constraints; and (3) home prices and spending are influenced by a common 'third factor' such as something that affects expectations regarding future income. Identifying differences in behaviour across households of different ages helps to distinguish among these hypotheses. Younger homeowners exhibit the largest home-price wealth effects, with a 3 to 4 cent increase in spending per dollar increase in home price. As young homeowners are more likely to be credit constrained, their relatively large marginal propensity to spend supports hypothesis (2) as an important determinant of the co-movement between home prices and household spending. Further, the non-response of young renters to changes in home prices argues against hypothesis (3).