Thursday, June 12, 2008

Q1 2008 Mortgage Equity Withdrawal: $51.2 Billion

by Calculated Risk on 6/12/2008 03:00:00 PM

Here are the Kennedy-Greenspan estimates (NSA - not seasonally adjusted) of home equity extraction for Q1 2008, provided by Jim Kennedy based on the mortgage system presented in "Estimates of Home Mortgage Originations, Repayments, and Debt On One-to-Four-Family Residences," Alan Greenspan and James Kennedy, Federal Reserve Board FEDS working paper no. 2005-41.

Kennedy Greenspan Mortgage Equity Withdrawal Click on graph for larger image in new window.

For Q1 2008, Dr. Kennedy has calculated Net Equity Extraction as $51.2 billion, or 1.9% of Disposable Personal Income (DPI). Note that net equity extraction for Q4 2007 has been revised upwards to $92.3 billion.

This graph shows the net equity extraction, or mortgage equity withdrawal (MEW), results, both in billions of dollars quarterly (not annual rate), and as a percent of personal disposable income.

MEW declined sharply in Q1 2008, however these numbers are not seasonally adjusted. MEW in Q1 2007 was $135.7 Billion, so MEW has fallen over 60% from Q1 2007.

How important is MEW?

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Here is what I wrote last year:

As homeowner equity continues to decline sharply in the coming quarters, combined with tighter lending standards, equity extraction should decline significantly and impact consumer spending.
So far homeowner equity has declined sharply, lending standards are tighter, and equity extraction has declined significantly.

But that still leaves the most important link; the impact on consumer spending. No one really knows how much MEW impacts consumption, and the estimates vary widely.

I've been using some estimates from Greenspan that about half of MEW flows to consumption and the other half flows to savings and investment. MEW totaled $682 billion, in 2006 and declined to $473 billion in 2007. That is a difference of $209 billion, and if half flowed to consumption - the drag on consumption from declining MEW was about $105 billion in 2007.

Since nominal Personal Consumption Expenditures (PCE) increased $510 billion between 2006 and 2007, we can estimate that if MEW had been steady, consumption would have increased about $615 billion (another $105 billion). Still, PCE increase 2.9% in real terms between 2006 and 2007 - below the average of 3.7% for the previous 10 years - but still pretty strong. Here was my estimate for 2007:
[T]he estimated drag on consumption would be $110 Billion. If we assume 2006 GDP of $13.3 trillion that would mean a drag of about 0.8% in 2007 due to the decline in MEW.
In 2008, MEW will probably decline to around $200 Billion, a decline of $273 billion from last year. So my estimate - doing the same calculation as above - is that MEW will be a drag of about $135 billion on PCE in 2008, or reduce PCE about 1%, all else being equal (of course the economic slowdown will also impact PCE).

But we also have to consider the other half of the decline in MEW; the portion that flows to investment and savings. Some of that investment went to residential investment for home improvement, and declining MEW will also impact this investment spending (I'll have more on this soon).
Read on ...