Household finance and the role of housing wealth in household financial decision making

Abstract

This dissertation consists of three essays on household finance, with a focus on understanding how housing wealth affect household financial decisions.

The first essay uses a novel panel dataset with consumption and income records to study the heterogeneity in house price-consumption sensitivity across and within life-cycle stages. This study finds young homeowners with high income volatility have the largest sensitivity. The influence of income volatility subsumes credit constraint measures such as liquid assets, loan-to-value ratio, and mortgage payment coverage highlighting the precautionary savings nature of this sensitivity. Old unconstrained homeowners with high housing wealth share have significant sensitivity, consistent with the wealth effect. Overall, these two homeowner groups are the largest contributors to aggregate sensitivity while other groups typically have small and insignificant sensitivities.

The second essay develops a stylised life-cycle model on optimal consumption with housing and risky labour income and provides analytical solutions. The study shows that while the consumption of older individuals are affected by house prices only due to a housing wealth effect, the young and middle-aged can be influenced by both the wealth effect and a credit-constraint effect, depending on their levels of wealth. Young homeowners with intermediate level of wealth also exhibit a precautionary saving motive, which is influenced by house prices. This model provides a framework in understanding the empirical findings in the literature.

The last essay uses a novel panel dataset to investigate whether variations in housing wealth affect individuals' stock market entry decision. The study identifies the impact of housing wealth by examining how house price changes predict the stock market entry of homeowners compared to renters, who experience the same economic conditions but the opposite wealth shocks when house prices fluctuate. The study finds rising house prices lead to higher probabilities of stock market entry and larger initial investment of homeowners compared to renters. Falling prices lead to larger bank savings of homeowners than renters, likely due to a heightened precautionary saving motive. In contrast, renters avoid the stock market and save more when house prices increase, suggesting implicit housing costs limit stock market participation.