One of the reasons for the strong US economy, or strong American consumer, is the "wealth effect". Below is the definition of "wealth effect" according to Investopedia:
"The wealth effect is a behavioral economic theory suggesting that people spend more as the value of their assets rises. The idea is that consumers feel more financially secure and confident about their wealth when their homes or investment portfolios increase in value. They are made to feel richer, even if their income and fixed costs are the same as before."
Total US household assets in Q2 2024 amounted to $184.5 trl, and Net Worth $163.8 trl - see Figure 1. The higher the level of Net Worth as a % of GDP - the stronger the "wealth effect" can be. We are currently near maximum levels .. above 600% - see Figure 2.
But the rate of wealth growth also matters... and since Q1 2020 Net Worth has been growing at an annual rate of +9.6%. This is significantly faster than the previous expansion from 2009 to 2020, when the annual rate of growth of Net Worth was “only” 6.4%. See Figure 3.
The main components of household assets are stocks and real estate. Both the S&P500 and the S&P CoreLogic Case-Shiller U.S. National Home Price Index have risen significantly since 2020 (see Figure 4):
- S&P500 +128% (from Q1 2020 lows),
- Case-Shiller U.S. National Home Price Index +47% (June 2020 to June 2024).
The wealth effect has one drawback… it works both ways. Perhaps the lack of further growth in stock and house prices could already be seen as a net drag on economic growth? Or maybe we need falling stock and home prices before the next recession in the real economy… aka the “reserve wealth effect”?
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