Housing wealth effects: The long view

We provide new, time-varying estimates of the housing wealth effect back to the 1980s. We exploit systematic differences in city-level exposure to regional house price cycles to instrument for house prices. Our main findings are that: 1) Large housing wealth effects are not new: we estimate substantial effects back to the mid 1980s; 2) Housing wealth effects were not particularly large in the 2000s; if anything, they were larger prior to 2000; and 3) There is no evidence of a boom-bust asymmetry. We compare these findings to the implications of a standard life-cycle model with borrowing constraints, uninsurable income risk, illiquid housing, and long-term mortgages. The model explains our empirical findings about the insensitivity of the housing wealth effects to changes in the loan-to-value (LTV) distribution, including the dramatic rise in LTVs in the Great Recession. The insensitivity arises in the model for two reasons. First, impatient low-LTV agents have a high elasticity. Second, a rightward shift in the LTV distribution increases not only the number of highly sensitive constrained agents but also the number of underwater agents whose consumption is insensitive to house prices.