Consumers Getting Less Cash Out of Their Homes
Sliding home values are eroding the equity U.S. households can tap for cash at the same
time banks have grown reluctant to lend, threatening the consumer spending the economy needs to dodge recession.
In the third quarter of last year, homeowners refinancing mortgages withdrew $20 billion less in real estate wealth than in the prior quarter, and since housing prices have continued to tumble, the outlook for cash-outs has continued to dim.
Lenders have also grown more cautious doling out cash through home equity lines of credit since those loans were failing at their highest rate in ten years during the third quarter.
If the housing market remains soft this year, as most economists expect, consumers will have less home equity to convert into cash, which could lead to an economically damaging pullback in spending.
Homeowners wealth "is not going to add anything (to consumer spending) in the coming year and probably did not add anything last year," said Nomura Securities International economist David Resler.
With consumers already struggling with high energy costs and a softening jobs market, the drying up of home equity could come as the last straw.
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Two clues to weaker home wealth extraction are found in the availability and performance of home equity lines of credit and cash-out refinanced mortgages that rely on a borrower's home as collateral.
The $60 billion extracted through mortgage refinancing in the third quarter was the smallest since $43 billion was withdrawn in the first three months of 2005, according to mortgage finance company Freddie Mac, which tracks cash-out refinancing data.
Meanwhile, more and more loans that let homeowners take an advance on their real estate wealth are going bad.
Delinquency rates for home equity lines of credit climbed through the first three quarters of last year to stand at their highest level in 10 years at the end of September, according to
data from the American Bankers Association.
Dean Baker, a director at the Center for Economic and Policy Research in Washington, says evaporating home wealth helps explain an increase in credit card debt.
The Federal Reserve said last week that credit card debt rose at an 11.3 percent annual rate in November. From 2003 to 2005, that debt had been rising at a rate between 2 percent and
"Millions of homeowners are losing the ability to borrow against their home," Baker wrote last week. "Millions of households will soon have little choice but to sharply curtail their consumption."
Under a ongoing research project he launched with then-Fed Chairman Alan Greenspan, economist James Kennedy found that spending on consumer goods and home improvements by homeowners financed by equity extraction were down about $94 billion during the first nine months of 2007 compared to the same period a year earlier, about a 25 percent fall.
Still, economists hold different views on how much rising real estate wealth boosts spending or how badly the economy is hurt when consumers hold back from cashing out their home
Homeowner cash-outs peaked during the height of the housing boom that ended in 2005 but consumer spending largely held steady after it did, said Citigroup economist Steven Wieting.
"There would have been a massive economic boom if that money had been spent," he said. "The effect is more incremental and occurs on the right hand of the decimal point."
Funds from cash-outs do not always go to consumption. Proceeds can go to pay down debt, or to invest.
Besides homeowner cash-outs, overall spending is also heavily influenced by income growth, interest rates and non-housing wealth, Deutsche Bank said in a recent research note.
"Rising energy prices may have been the more important negative factor in slowing consumer spending growth to this point, but we expect the effect from home prices to become more
visible over the year ahead," Deutsche Bank economists said.
While real estate wealth cannot be counted on to boost consumer spending this year, Nomura's Resler said recession is not a foregone conclusion.
"There is nothing inevitable in economics and recession is at the top of that list," he said.