Underestimated "wealth effect"?

What is the macro significance of the wealth effect? The appreciation of residents' assets boosts consumption tendencies, and since 2016, the real estate wealth effect has gradually replaced the stock market.

The wealth effect refers to the significant stimulating effect of residents' asset appreciation on consumption. In theory, the wealth effect affects residents' broad income, thereby influencing consumption expenditure. However, income in statistics does not include capital gains, so the impact of asset appreciation on residents' consumption can only be observed through consumption tendencies. Overseas experience shows that the growth of residents' asset size improves residents' consumption tendencies, thereby increasing consumption expenditure. Taking the United States as an example, in 2021, residents' total assets increased by the highest year-on-year rate, reaching 13.7%, with a marginal increase of 1.4 percentage points in consumption tendencies, leading to a 12.9% increase in consumption expenditure. Housing and stock price increases are the main factors contributing to asset growth, accounting for 4.6% and 4.1% of asset growth in 2021, respectively.

The domestic wealth effect can also boost consumption, mainly manifested in the improvement of consumption tendencies. Domestic residents' consumption expenditure generally follows the trend of asset size, but there are deviations in some years. After considering disturbances such as labor compensation and other income factors, the year-on-year change in consumption tendencies that only represent the impact of asset appreciation on residents' consumption is in the same direction as the growth rate of asset size. For example, in 2015, although the growth rate of residents' asset size expanded, the growth rate of per capita consumption expenditure decreased by 1.4 percentage points, but the year-on-year increase in consumption tendencies rose by 0.2 percentage points.

However, in recent years, the real estate wealth effect has dominated, replacing the stock market wealth effect. In the past, the year-on-year changes in residents' housing, stock, and fund sizes were quite consistent with consumption tendencies. However, since 2016, while residents' housing size has been increasing year by year, the market value of stocks has been decreasing, leading to the real estate wealth effect replacing the stock market wealth effect. Specifically, from 2016 to 2019, the proportion of residents' housing size increased by 1.4%, while the proportion of stock size decreased by 0.4%; during this period, the wealth effect of housing assets dominated, driving the marginal improvement in consumption tendencies.

What is the mechanism behind the wealth effect? Housing affects the wealth foundation, financial assets affect the wealth elasticity, and the scale of the wealth effect is underestimated.

Among residents' assets, housing accounts for a high proportion affecting the wealth foundation, while financial assets have greater volatility affecting the wealth elasticity. In terms of asset stock, in 2019, housing accounted for as high as 64.7% of residents' total assets, significantly impacting residents' wealth foundation. On the margin, financial assets such as stocks only accounted for 5.6%, but the standard deviation of year-on-year size since 2001 was as high as 68.9%, exerting a significant impact on wealth elasticity. When market stock returns show negative growth, it directly drags down residents' wealth. In recent years, the largest reduction in stock and other asset sizes was in 2018 (3 trillion yuan).

Under the household survey approach, the proportion of net property income to disposable income is approximately 8.5%, while including asset appreciation, the proportion of broad property income to total income is about 15%. Rising house and stock prices affect the related asset market values, but net property income under the household survey approach does not include asset appreciation income. In 2019, the proportion of net property income under the household survey approach to residents' disposable income was 8.5%, while housing appreciation income accounted for 6.9%, capital gains contributed -0.04%, and the proportion of broad property income to residents' total income reached 14.8% Compared with overseas, the domestic wealth effect has a higher proportion of the real estate market but a lower proportion of the stock market, and the stock market volatility is greater than overseas, to a certain extent, inhibiting the formation of the wealth effect. Taking the United States as an example, the proportion of residents' stocks and funds has continued to increase, from 15% in 2009 to 24.1% in 2023, higher than China's 18.4%. At the same time, the U.S. stock market has steadily risen over the past decade, with small pullbacks (post-2008 returns mainly concentrated in the -10% to 30% range), making the formation of the stock market wealth effect more stable and sustainable, driving the simultaneous expansion of asset size.

How to optimize and promote the wealth effect? A "slow bull" market in stocks is more likely to generate a wealth effect, and stable housing prices are more favorable for consumption tendencies in low-income areas.

During a "crazy bull" market, income differentiation among different income groups weakens the wealth effect, while a "slow bull" market is more likely to form a sustainable wealth effect. For every 1% increase in personal stock income, the average stock market value increased by 0.9% during the "slow bull" period represented by 2017, compared to only 0.6% growth during the "crazy bull" period represented by 2015. In 2015, capital gains for low-income groups were negative, leading to weakened consumption tendencies; capital gains for high-income residents were positive, but consumption tendencies continued to decline, indicating a significant weakening of the stock market wealth effect during the "crazy bull" period.

Stabilizing housing prices in medium and low-income areas helps boost consumption tendencies, but stabilizing housing prices in high-income areas does not have a significant impact on consumption and instead creates a suction effect on low-income areas. When housing prices change, the fluctuation in housing market value in low-income areas is higher than in high-income areas, and their consumption tendencies align with changes in housing prices. For example, from 2016 to 2019, with a 19.9% increase in housing prices, the incremental increase in consumption tendencies was 1.6 percentage points. In contrast, consumption in high-income areas shows a different pattern, with a preference for housing investment when housing prices rise, leading to capital inflows into the real estate market rather than consumption, with the real estate market value accounting for 195.5% of GDP (compared to 100.4% in low-income areas). Stabilizing housing prices in high-income areas alone does not lead to significant changes in consumption but instead creates a suction effect on demand in low-income areas.

During periods of rising housing prices, consumer spending on appliances and other real estate chain products increases significantly, while during periods of rising stock prices, spending on entertainment-related products shows a more prominent performance. Influenced by residents' housing wealth effects, sales of building decoration, furniture, and other real estate chain products show significant growth. For example, in 2016, the real estate market wealth effect dominated, with furniture retail sales growth exceeding the year-on-year growth of regulated retail sales by 4.6 percentage points. In contrast, during the phase of rising personal stock income in 2015, the stock market wealth effect was more pronounced, with faster growth in entertainment-related consumer spending, exceeding the average retail sales growth by 8.8 percentage points.

Main Text of the Report

1. The Macro Significance of the Wealth Effect?

The wealth effect refers to the significant stimulating effect on consumption after residents' assets appreciate. The theoretical mechanism through which the wealth effect affects residents' consumption is by influencing residents' broad income, consumption capacity, and thereby affecting consumption. However, at the statistical level, income does not include capital gains. Therefore, based on the idea of controlling variables, the impact of capital gains on residents' consumption can only be observed through consumption tendencies (consumption/income) Overseas experience shows that the growth of residents' asset size will improve their consumption tendency, thereby increasing consumption expenditure. Taking the United States as an example, in 2021, the total asset size of residents increased by the highest year-on-year growth rate, reaching 13.7%. The marginal increase in residents' consumption tendency was 1.4 percentage points, leading to a 12.9% increase in consumption expenditure. The rise in housing and stock prices were the main factors contributing to the growth of asset size, contributing 4.6% and 4.1% respectively to the total asset growth in 2021.

The wealth effect of domestic residents can also boost consumption, mainly manifested in the improvement of consumption tendency. Domestic residents' consumption expenditure is influenced by the wealth effect and generally moves in sync with the trend of asset size, but there have been deviations in some years. For example, in 2015, the year-on-year increase in residents' asset size compared to the previous year was 6.1 percentage points, but the growth rate of residents' consumption expenditure fell by 1.4 percentage points. After considering disturbances such as labor compensation and other income factors, the consumption tendency that represents the impact of asset appreciation on residents' consumption moved in the same direction as the change in asset size growth rate year-on-year, with the year-on-year increase in consumption tendency in 2015 rising by 0.2 percentage points.

However, in recent years, the wealth effect of the real estate market has dominated, replacing the wealth effect of the stock market. In the past, changes in the scale of residents' housing, stocks, and funds were relatively consistent with changes in consumption tendency year-on-year. However, since 2016, the scale of residents' housing has been increasing year by year, while the value of stock holdings has been declining, with the wealth effect of the real estate market replacing that of the stock market. Specifically, from 2016 to 2019, the proportion of residents' housing scale increased by 1.4%, while the proportion of stock scale decreased by 0.4%; during this period, the wealth effect of housing assets dominated, leading to a narrower year-on-year decrease in consumption tendency by 0.3 percentage points compared to five years ago.

2. Formation Mechanism of Wealth Effect?

In residents' assets, housing accounts for a high proportion affecting the wealth foundation, while financial assets have a greater impact on wealth elasticity due to their large fluctuations. In terms of asset stock, in 2019, housing accounted for as high as 64.7% of total residents' assets, significantly influencing residents' wealth foundation. Marginally, financial assets such as stocks accounted for only 5.6%, but since 2001, the standard deviation of the scale year-on-year has been as high as 68.9%, indicating a significant impact on wealth elasticity due to large fluctuations; especially when market stock returns show negative growth, it directly drags down residents' wealth In recent years, the scale of stock assets has shrunk the most in 2018, reaching 30 trillion yuan.

Under the household survey method, the proportion of net property income to disposable income is about 8%, while the broad property income including asset appreciation accounts for 15% of total income after adding asset appreciation. The rise in house prices and stock prices affects the market value of related assets, but the net property income under the household survey method does not include asset appreciation income. In 2019, the proportion of net property income under the household survey method to residents' disposable income was 8.5%, and the property income brought by asset appreciation was also significant. In 2019, the proportion of house appreciation income reached 6.9%, while capital gains contributed -0.04%, making the broad property income account for 14.8% of residents' total income.

Compared to overseas, in the domestic wealth effect, the proportion of the real estate market is high but the stock market is low, and the stock market volatility is higher than overseas, to a certain extent, inhibiting the formation of the wealth effect. Unlike domestic residents who mainly rely on housing for asset allocation, in developed economies overseas, the proportion of stocks and funds in residents' assets continues to rise. Taking the United States as an example, by 2023, the proportion of residents' stocks and funds increased by 9.1 percentage points to 24.1% compared to 2009, exceeding the domestic proportion in 2019 by 18.4 percentage points. At the same time, the U.S. stock market has steadily risen over the past decade, with small pullbacks (returns mainly concentrated in the -10% to 30% range after 2008), making the formation of the wealth effect more stable and sustainable, thereby driving the simultaneous expansion of asset scale.

3. How to optimize and promote the wealth effect?

During the stock market's "bull market" period, income differentiation among different income groups weakens the wealth effect, while during the "slow bull" period, a sustainable stock market wealth effect is more likely to form. For every 1% increase in individual stock returns, the average stock market value increased by 0.9% during the "slow bull" period represented by 2017, while it only increased by 0.6% during the "bull market" period represented by 2015. Looking at different income groups, in 2015, the capital gains of low-income groups were negative, and their consumption tendencies narrowed significantly compared to the national average; at the same time, the capital gains of high-income residents with lower consumption tendencies were positive, but their consumption tendencies continued to decline, weakening the role of financial assets in driving consumption during the "bull market" period Real estate investment continues to recover, with new construction and sales area of commercial housing showing marginal improvement. In September, real estate development investment increased slightly by 0.1 percentage points year-on-year to -10.1% compared to the previous month, and increased by 0.9 percentage points year-on-year to -9.3% for the month. Looking at different stages, new housing construction and sales area of commercial housing continue to recover, with year-on-year declines narrowing by 0.3 and 0.9 percentage points to -22.2% and -17.1% respectively; however, there is still a significant gap compared to the same period last year, and the sustainability of the recovery in real estate new construction and sales remains to be further observed; completed area continues to decline, down by 0.8 percentage points year-on-year to -24.4% compared to the previous month, significantly weaker than last year.

Stabilizing house prices in medium and low-income areas is conducive to boosting consumption tendencies, but stabilizing house prices in high-income areas does not have a significant impact on consumption; instead, it may have a suction effect on low-income areas. In terms of changes in house prices, the fluctuation range of housing market value in low-income areas exceeds that of high-income areas, and consumer tendencies in low-income areas align with changes in house prices. When house prices rise, residents in low-income areas show a greater increase in consumption tendencies. For example, from 2016 to 2019, when house prices rose by 19.9%, the increase in consumption tendencies compared to the national average was 1.6 percentage points. On the other hand, consumption tendencies of high-income groups move in the opposite direction to changes in house prices. When house prices rise, high-income areas prefer housing investment, with funds flowing into the real estate market rather than consumption. The proportion of real estate market value to GDP is also higher in high-income areas; in 2023, the proportion in super high-income areas is 195.5%, while in low-income areas it is only 100.4%. Stabilizing house prices in high-income areas alone does not significantly improve consumption, but instead creates a suction effect on real estate demand in low-income areas.

During periods of rising house prices, consumer spending on appliances and other real estate chain products increases significantly, while during periods of rising stock market, spending on entertainment-related products shows a more prominent performance. Influenced by the wealth effect of residential housing for residents, sales of building decoration, furniture, and other real estate chain-related goods show significant increases. For example, in 2016, the scale of residential housing for residents increased significantly, driving the growth rates of building decoration and furniture retail sales to exceed the year-on-year growth of retail sales of regulated goods by 5.9 and 4.6 percentage points respectively. During periods of rising stock returns, spending on entertainment-related products grows rapidly; for instance, in 2015 and 2017, with higher personal stock returns and the dominance of wealth effects from financial assets, sports and entertainment goods retail sales were respectively higher by 8.8 and 7.5 percentage points compared to average retail sales of goods; at the same time, the growth rate of cosmetic retail sales expanded, increasing by 5.2 percentage points in 2017 compared to the previous year

Authors: Zhao Wei, Tu Qiang, Source: Shenwan Hongyuan Macro, Original Title: "Underestimated 'Wealth Effect'?"