The Wealth Effect Failure

uneven playing fieldPeople tend to increase spending when the prices of their stock market and real estate assets rise. They perceive it as an increase to their financial security. This is known as the wealth effect.

“The wealth effect is a psychological phenomenon that causes people to spend more as the value of their assets rises. The premise is that when consumers’ homes or investment portfolios increase in value, they feel more financially secure, so they increase their spending. Conversely, when consumers see the value of their homes or portfolios fall, they tend to spend less. The wealth effect attempts to explain why consumers might change their spending habits even if their income and fixed costs have stayed the same.” ~Investopedia

Monetary policymakers consider the increased consumer spending that follows a rise in the price of assets to be an indicator of economic recovery. But is it really and does the everyday family benefit? What is the reality?

  • Higher home prices (significantly increased since 2008) make home ownership  more unavailable to more people. Home ownership is at its lowest rate since tracking began in 1963.
  • Higher home prices also put rental property prices out-of-reach to more people.
  • Home sales in 2016 are not broad-based and people-driven as they were in 2008, albeit via sub-prime loans. Now a large percentage of homes sales are cash sales of homeowners and investors (domestic and foreign) who need somewhere to park assets. Banks offering low interest rates remain an unattractive option.
  • Additionally, the 2016 big bump in home sale prices and purchases are pocketed in 3 main areas of the United States due to the presence of the U.S Government, government contracts, and technology companies: Washington D.C., New York, and San Francisco where tech employees can get home loans based on their stock option prices.

In April of 2016 GOBankingRates.com created a survey they called: Financial Burdens Survey. The respondents ranked their personal finance issues according to the six categories the survey provided. Interesting to me is that a category called, personal debt, was totally absent! Here are their six categories:

•    High cost of living
•    Healthcare costs
•    Insufficient income
•    Taxes (income, property, and/or other taxes)
•    Retirement savings
•    Higher education costs

runaway cost-of-living

Not surprising, one in four Americans responding to the survey said the “high cost of living” was their most challenging personal finance issue. Not only do salaries and wages fail to keep up with the cost-of-living (since the 1970’s) but also the killer – personal debt – takes a growing bite out of incomes.

The wealth effect is a smoke screen. It distracts from any focus being put on the flaws of the monetary system. Rising asset prices favor the haves who own assets (minority), while extracting precious resources from the have-nots (majority).

More decent-paying jobs can certainly help; but alone, jobs cannot make it “right.” Why? The independent-of-governments central banking system pulls the strings. Simply put: The money they issue is systemically devalued via a mathematical formula decreasing money’s purchasing power. Anyone who has studied this, as I have, knows that nothing short of a system overhaul could possibly bring back long-term economic recovery. Even if everyone had a job, their hard-earned money over time will purchase less and less.

The good news is that by this knowledge you can rethink the best ways to earn, spend, save and invest to ensure the most quality in your life with the least amount of stress. That is, until really real change takes place at the monetary system level.

2 Responses to “The Wealth Effect Failure”

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  1. Robert says:

    Susan, I’m like a deer in the headlights. The reality you write about is a case for my powerlessness. I know your books provide lots of pertinent information and exercises; but in light of the information in this article, what are a couple of strategies I can employ now to mitigate the eroding effect which the system?

    • Susan says:

      Thanks for your question, Robert. Here’s two that are a great way to begin. Wean yourself from using credit while you work towards living within your means – spending only as much as you have without relying on credit.

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