Title: WEALTH EFFECTS ON CONSUMPTION IN PORTUGAL: A MICROECONOMETRIC APPROACH*
Abstract: The topic of wealth effects on consumption has recently been subject to renewed research and policy interest. Sharp increases in global stock prices were recorded during the 90s, followed by strong and persistent rises in house prices in the US, the UK and some euro area economies. Over the same period, saving rates kept a falling trend. The practice of borrowing against home equity to finance consumption was largely to be found in some economies such as the US, the UK and the Netherlands. This practice was supported by historically low levels of interest rates and innovations in financial and mortgage markets and it is likely that it played a critical role in sustaining consumer expenditures. These developments enhanced the interest in studying the effect of both financial and housing wealth on consumption. More recently, in the context of the financial crisis, the sharp reverse in both stock and house price trends raised concerns that these developments could contribute to depress consumption and exacerbate the economic slowdown, reinforcing the interest in these issues. In Portugal, unlike in the US and many other countries, there is evidence that house prices changed only slightly above the consumer price index during the period 1996-2007. The increase in the level of households’ gross housing wealth, coupled with a declining trend in the savings rate, was mainly explained by the easier access to credit as the decline in nominal interest rates lowered the incidence of liquidity constraints. More recently, the conditions of access to credit have changed with the purpose of mitigating the effect of rising interest rates on debt service, thereby improving households’ ability to service debt through, for example, the widening of loan maturities. 1 In Portugal equity withdrawals from housing are still limited and the average loan to value ratio is not as high as in the countries referred above. Moreover there is no evidence of a speculative bubble in house prices. However, the significant weight of housing wealth in Portuguese household portfolios makes households, in particular specific types of households, dependent on developments in the housing market. In fact, there are reasons to expect heterogeneity in the relation between housing and consumption across different types of households. The potentially different reaction of households with different characteristics to shocks in this market is therefore a relevant issue in studying wealth effects in the Portuguese economy. The literature has long established a positive relation between consumption and wealth. Theoretical models basically predict that unexpected wealth shocks change households’ permanent income, thereby affecting their life-cycle pattern of savings and consumption. Empirical studies have generally supported this prediction. As a matter of fact, empirical research on the link between wealth and consumption has generally found evidence of a positive and significant relationship connecting the two variables. In studies that make use of macro level data for the US, where the issue has been most extensively studied, the estimated marginal propensity to consume (mpc) out of wealth typically ranges
Publication Year: 2008
Publication Date: 2008-01-01
Language: en
Type: article
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Cited By Count: 11
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