NCPA - National Center for Policy Analysis

What Happens To The "Wealth Effect" When Wealth Fades?

March 23, 2001

Stocks comprise a bigger part of household wealth and more households own them than ever before. As stocks -- particularly technology stocks -- leaped for the skies in the 1990s, newly affluent Americans increased their purchases and drove the economy even higher, a phenomenon known as the "wealth effect."

But now analysts are trying to determine how much the fall in stock prices will dissuade those same consumers from spending in the future. Many economists are concluding the impact may not be as severe as first thought.

  • Surveys of consumers reveal remarkably few of them think the market's fall will affect them personally.
  • And it is possible that since much of the wealth lost since the market's peak a year ago was created only in the prior 16 months, it was too short-lived to affect the behavior of all but a relatively small group.
  • At the end of last March, household holdings of stocks and mutual funds equaled $12.2 trillion, or 178 percent of annual disposable personal income -- up from $2.3 trillion, or 52 percent of such income in 1990.
  • The value of those holdings plunged 21 percent to $9.6 trillion at the end of December -- and has probably fallen another 16 percent this year.

Polls show that even though stock ownership has spread considerably in the last 15 years, there has been no appreciable increase in the number of consumers who feel affected by bear markets. That may be because many households invest for the long term and view declines as buying opportunities.

Source: Greg Ip, "Are Fears of 'Wealth Effect' Exaggerated?" Wall Street Journal, March 23, 2001.

For text (WSJ subscribers)

http://online.wsj.com/articles/SB985297001219093229.htm

 

Browse more articles on Economic Issues