The value of homes in excess of what people borrow with a mortgage is known as their home equity. Home equity is the single largest component of net wealth for most families in the United States. Compared to wealth holdings in the stock market, which tend to be concentrated in the highest income brackets, home-equity wealth is more widely dispersed across the income spectrum. Changes in the value of home equity like other forms of wealth affect consumer spending. The period from 1997 to mid-2006 was paradise for consumers. Housing prices rose nationally by approximately 90 percent and consumer wealth grew by $6.5 trillion dollars over that period. The party ended in the summer of 2006 as housing prices began to fall. In some regions of the country, where housing prices had risen most sharply, they fell from their peak by about 30 percent. No longer were households refinancing their mortgages and pulling out money to buy new cars, boats, or other consumer durables. Instead, many recent home purchasers actually owed more than their homes were worth and, as a result, some defaulted on their loans and turned their property over to lenders. How do these changes affect consumer spending?
In its review of the literature, the Congressional Budget Office found most studies estimated a decrease of consumer wealth of $1 would lower consumption spending by somewhere between $0.02 and $0.07. Based on forecasts for housing prices, the Congressional Budget Office estimated the declines in housing prices would reduce consumer wealth and ultimately consumer spending between $21 and $72 billion or subtract 0.1 to 0.5 percentage points from economic growth during 2007. This partly explains the reduced rate of economic growth that occurred during that year.