Household Balance Sheets, Consumption, and the Economic Slump*
TL;DR: In this article, the authors use the highly unequal geographic distribution of wealth losses across the United States to estimate a large elasticity of consumption with respect to housing net worth of 0.6 to 0.8, which soundly rejects the hypothesis of full consumption risk sharing.
Abstract: lapse using the highly unequal geographic distribution of wealth losses across the United States. We estimate a large elasticity of consumption with respect to housing net worth of 0.6 to 0.8, which soundly rejects the hypothesis of full consumption risk-sharing. The average marginal propensity to consume (MPC) out of housing wealth is 5–7 cents with substantial heterogeneity across ZIP codes. ZIP codes with poorer and more levered households have a significantly higher MPC out of housing wealth. In line with the MPC result, ZIP codes experiencing larger wealth losses, particularly those with poorer and more levered households, experience a larger reduction in credit limits, refinancing likelihood, and credit scores. Our findings highlight the role of debt and the geographic distribution of wealth shocks in explaining the large and unequal decline in consumption from 2006 to 2009. JEL Codes: E21, E32, E44, E60.
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TL;DR: In this paper, the authors combine income tax returns with Flow of Funds data to estimate the distribution of household wealth in the United States since 1913, showing that wealth concentration has followed a U-shaped evolution over the last 100 years: it was high in the beginning of the twentieth century, fell from 1929 to 1978, and has continuously increased since then.
Abstract: This paper combines income tax returns with Flow of Funds data to estimate the distribution of household wealth in the United States since 1913. We estimate wealth by capitalizing the incomes reported by individual taxpayers, accounting for assets that do not generate taxable income. We successfully test our capitalization method in three micro datasets where we can observe both income and wealth: the Survey of Consumer Finance, linked estate and income tax returns, and foundations’ tax records. Wealth concentration has followed a U-shaped evolution over the last 100 years: It was high in the beginning of the twentieth century, fell from 1929 to 1978, and has continuously increased since then. The rise of wealth inequality is almost entirely due to the rise of the top 0.1% wealth share, from 7% in 1979 to 22% in 2012|a level almost as high as in 1929. The bottom 90% wealth share rst increased up to the mid-1980s and then steadily declined. The increase in wealth concentration is due to the surge of top incomes combined with an increase in saving rate inequality. Top wealth-holders are younger today than in the 1960s and earn a higher fraction of total labor income in the economy. We explain how our ndings can be reconciled with Survey of Consumer Finances and estate tax data.
1,219 citations
TL;DR: In this paper, the authors investigated the effect of bank lending frictions on employment outcomes and found that credit matters, and that withdrawal of credit accounts for between one-third and one-half of the employment decline at small and medium firms in the sample in the year 2007.
Abstract: This article investigates the effect of bank lending frictions on employment outcomes. I construct a new data set that combines information on banking relationships and employment at 2,000 nonfinancial firms during the 2008–9 crisis. The article first verifies empirically the importance of banking relationships, which imply a cost to borrowers who switch lenders. I then use the dispersion in lender health following the Lehman crisis as a source of exogenous variation in the availability of credit to borrowers. I find that credit matters. Firms that had precrisis relationships with less healthy lenders had a lower likelihood of obtaining a loan following the Lehman bankruptcy, paid a higher interest rate if they did borrow, and reduced employment by more compared to precrisis clients of healthier lenders. Consistent with frictions deriving from asymmetric information, the effects vary by firm type. Lender health has an economically and statistically significant effect on employment at small and medium firms, but the data cannot reject the hypothesis of no effect at the largest or most transparent firms. Abstracting from general equilibrium effects, I find that the withdrawal of credit accounts for between one-third and one-half of the employment decline at small and medium firms in the sample in the year
1,056 citations
TL;DR: This article investigated the relation between growth forecast errors and planned fiscal consolidation during the crisis and found that stronger planned consolidation has been associated with lower growth than expected, with the relation being particularly strong, both statistically and economically, early in the crisis.
Abstract: This paper investigates the relation between growth forecast errors and planned fiscal consolidation during the crisis. We find that, in advanced economies, stronger planned fiscal consolidation has been associated with lower growth than expected, with the relation being particularly strong, both statistically and economically, early in the crisis. A natural interpretation is that fiscal multipliers were substantially higher than implicitly assumed by forecasters. The weaker relation in more recent years may reflect in part learning by forecasters and in part smaller multipliers than in the early years of the crisis.
702 citations
TL;DR: In this paper, the role of redistribution in the transmission mechanism of monetary policy to consumption has been evaluated using consumer theory, and it has been shown that redistribution has aggregate effects whenever marginal propensities to consume (MPCs) covary, across households, with balancesheet exposures to aggregate shocks.
Abstract: This paper evaluates the role of redistribution in the transmission mechanism of monetary policy to consumption. Using consumer theory, I show that redistribution has aggregate effects whenever marginal propensities to consume (MPCs) covary, across households, with balancesheet exposures to aggregate shocks. Unexpected inflation gives rise to a Fisher channel and real interest rate shocks to an interest rate exposure channel; both channels are likely to contribute to the expansionary effects of accommodative monetary policy. Indeed, using a sufficient statistic approach, I find that redistribution could be the dominant reason why aggregate consumer spending reacts to transitory changes in the real interest rate, provided households’ elasticities of intertemporal substitution are reasonably small (0.3 or less in the United States). I then build and calibrate a general equilibrium model with heterogeneity in MPCs, and I evaluate how the redistribution channel alters the economy’s response to shocks. When household assets and liabilities have short effective maturities, the interest rate exposure channel raises the elasticity of aggregate demand to real interest rates, which dampens fluctuations in the natural rate of interest in response to exogenous shocks and amplifies the real effects of monetary policy shocks. The model predicts that if U.S. mortgages all had adjustable rates—as they do in the U.K.—the effect of interest-rate changes on consumer spending would more than double. In addition, this effect would be asymmetric, with rate increases reducing spending by more than cuts would increase it.
471 citations
TL;DR: The authors show that deterioration in household balance sheets, or the housing net worth channel, played a significant role in the sharp decline in U.S. employment between 2007 and 2009, and there is no significant expansion of the tradable sector in counties with the largest decline in house net worth.
Abstract: We show that deterioration in household balance sheets, or the housing net worth channel, played a significant role in the sharp decline in U.S. employment between 2007 and 2009. Counties with a larger decline in housing net worth experience a larger decline in non-tradable employment. This result is not driven by industry-specific supply-side shocks, exposure to the construction sector, policy-induced business uncertainty, or contemporaneous credit supply tightening. We find little evidence of labor market adjustment in response to the housing net worth shock. There is no significant expansion of the tradable sector in counties with the largest decline in housing net worth. Further, there is little evidence of wage adjustment within or emigration out of the hardest hit counties.
461 citations
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TL;DR: In this paper, the authors considered the continuous-time consumption-portfolio problem for an individual whose income is generated by capital gains on investments in assets with prices assumed to satisfy the geometric Brownian motion hypothesis, which implies that asset prices are stationary and lognormally distributed.
4,952 citations
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TL;DR: The authors constructs a simple neoclassical model of intrinsic business cycle dynamics in which borrowers' balance sheet positions play an important role and shows that the agency costs of undertaking physical investments are inversely related to the entrepreneur's/borrower's net worth.
Abstract: This paper constructs a simple neoclassical model of intrinsic business cycle dynamics in which borrowers' balance sheet positions play an important role. The critical insight is that the agency costs of undertaking physical investments are inversely related to the entrepreneur's/borrower's net worth. As a result, accelerator effects on investment emerge: Strengthened borrower balance sheets resulting from good times expand investment demand, which in turn tends to amplify the upturn; weakened balance sheets in bad times do just the opposite. Further, redistributions or other shocks that affect borrowers' balance sheets (as in a debt-deflation} may have aggregate real effects.
4,286 citations
TL;DR: The authors developed a simple neoclassical model of the business cycle in which the condition of borrowers' balance sheets is a source of output dynamics, and the mechanism is that higher borrower net worth reduces the agency costs of financing real capital investments.
Abstract: This paper develops a simple neoclassical model of the business cycle in which the condition of borrowers' balance sheets is a source of output dynamics. The mechanism is that higher borrower net worth reduces the agency costs of financing real capital investments. Business upturns improve net worth, lower agency costs, and increase investment, which amplifies the upturn; vice versa, for downturns. Shocks that affect net worth (as in a debt-deflation) can initiate fluctuations. Copyright 1989 by American Economic Association.
3,795 citations
TL;DR: The authors showed that the strong bias in favor of domestic securities is a well-documented characteristic of international investment portfolios, yet the preference for investing close to home also applies to portfolios of domestic stocks.
Abstract: The strong bias in favor of domestic securities is a well-documented characteristic of international investment portfolios, yet we show that the preference for investing close to home also applies to portfolios of domestic stocks. Specifically, U.S. investment managers exhibit a strong preference for locally headquartered firms, particularly small, highly levered firms that produce nontraded goods. These results suggest that asymmetric information between local and nonlocal investors may drive the preference for geographically proximate investments, and the relation between investment proximity and firm size and leverage may shed light on several well-documented asset pricing anomalies.
2,702 citations
01 Jan 1975
TL;DR: In this paper, the authors considered the continuous-time consumption-portfolio problem for an individual whose income is generated by capital gains on investments in assets with prices assumed to satisfy the geometric Brownian motion hypothesis, which implies that asset prices are stationary and lognormally distributed.
Abstract: Publisher Summary
A common hypothesis about the behavior of limited liability asset prices in perfect markets is the random walk of returns or in its continuous-time form the geometric Brownian motion hypothesis, which implies that asset prices are stationary and log-normally distributed. A number of investigators of the behavior of stock and commodity prices have questioned the accuracy of the hypothesis. In an earlier study described in the chapter, it was examined that the continuous-time consumption-portfolio problem for an individual whose income is generated by capital gains on investments in assets with prices assumed to satisfy the “geometric Brownian motion” hypothesis. Under the additional assumption of a constant relative or constant absolute risk-aversion utility function, explicit solutions for the optimal consumption and portfolio rules were derived. The changes in these optimal rules with respect to shifts in various parameters such as expected return, interest rates, and risk were examined by the technique of comparative statics. This chapter presents an extension of these results for more general utility functions, price behavior assumptions, and income generated also from noncapital gains sources. If the geometric Brownian motion hypothesis is accepted, then a general separation or mutual fund theorem can be proved such that, in this model, the classical Tobin mean-variance rules hold without the objectionable assumptions of quadratic utility or of normality of distributions for prices. Hence, when asset prices are generated by a geometric Brownian motion, the two-asset case can be worked on without loss of generality.
2,644 citations