The "Wealth Effect" refers to the propensity of people to spend more if they have more assets. The premise is that when the value of equities rises so does our wealth and disposable income, thus we feel more comfortable about spending.
The wealth effect has helped power the US economy over 1999 and part of 2000, but what happens to the economy if the market tanks? The Federal Reserve has reported that for every $1 billion in increase in the value of equities, Americans will spend an additional $40 million a year. The wealth effect has become a growing concern because more and more people are investing; furthermore the Federal Reserve has very little direct control over stock prices. The numbers are staggering. Since the end of 1995, household stock holdings have doubled to more than $12 trillion dollars. And, for the first time, equities are the most valuable asset of the typical American household, not the home. When it comes to spending money, consumers take all their financial resources into consideration, from their income to their home. When an asset surges in value for a sustained period of time, such as the stock market in the 1990s, people feel flush and are willing to spend some additional money, perhaps by buying a fancy car or by taking a more expensive vacation. A good number of Wall Street analysts blame the wealth effect for today's negative savings rate.
Declining stock prices affect firms in several ways. First, lower stock prices, especially induced by profit warnings, increase shareholder pressure on managers to cut costs by laying off workers and scaling back investment. Second, the recent correction has put many stock options underwater, and it is unclear to what extent workers will bargain for more cash in place of options and how this might affect payroll costs and inflation. Third, the factors dragging down stock prices typically spur investors to demand higher risk premiums, which boosts the cost of financing business investment. This takes the form of increased spreads of corporate bond and commercial paper interest rates relative to Treasury yields and lower prices for any new stock that any firm dares to offer. Aside from raising the going price of new finance, the increased uncertainty associated with lower stock prices can spook investors so much, that the availability of finance is reduced. Since the...
... middle of paper ...
...bear market if we remain at war for a long time in the future.
We have seen in the past month, steady gains in the major stock indices. Some are stating that the bull market may be back with the war on terrorism going well, and others are insisting that the gains are only short term and that the market will retest the lows hit in mid-September. Only time will tell on how long it will take for our market to completely rebound into a bull market like we saw in the 90’s.
1.) Balke, Nathan. “The Economy in Action”. Federal Reserve Bank of Dallas.
2.) Angeletos, George , David Laibson, Andrea Repetto, Jeremy Tobacman, and Stephen Weinberg. The Hyperbolic Buffer Stock Model. 3 March 2001.
3.) Clarke, Grahm and Steven Caldwell. “Wealth in America”. Ohio State 1998.
4.) Fidelity Investments. 2001 Estimated Stock Wealth Effects on Consumption.
5.) American Express Company. 2001 American Express “ever day spending” survey.
6.) John Khoury. Yahoo Finance: http://finance.yahoo.com.
7.) U.S. Census Bureau. www.census.gov/. 2001.
8.) Swanson, KC. Is the “negative wealth” effect all its cracked up to be. The Street.com 29 March 2001.
Need Writing Help?
Get feedback on grammar, clarity, concision and logic instantly.Check your paper »
- ... The author Joseph Nye would agree with Norberg on how he observes globalization. In his article, “Fear Not Globalization” he proclaims his proglobalist thoughts by first claiming, ”When anti-globalization protesters took to the streets of Washington recently, they blamed globalization for everything from hunger to destruction of indigenous cultures. And globalization meant the United States” (Nye, 2002, p. 204). By this he is expressing that the changes that have been occurring are having an automatic blame on globalization.... [tags: outsourcing, poverty, country, economy]
2568 words (7.3 pages)
- The Effect of the New Deal on Ethnic Women's Wealth Introduction: New Labour acknowledges that there is a group of people who are excluded from society. This exclusion is described as, “A combination of linked problems…unemployment, discrimination, poor skills, low incomes, poor housing, high crime, bad health and family breakdown” (ODPM, 2004: 7) The New Deal is a policy aimed at reducing poverty through increasing employment to create an inclusive society.... [tags: Papers]
1693 words (4.8 pages)
- “A fool and his money are soon parted” (Unknown) people who are lucky enough to become suddenly rich will only ruin their life in the long run, either by winning a lottery, having a successful investment, or just claiming an inheritance, with these categories there are same effects: bothering charities, filing for bankruptcy within next five years, and unlasting happiness. Charities will often ask money through organizations, for sudden wealthy, charities wouldn’t leave them alone till they get the amount they want.... [tags: wealth,]
512 words (1.5 pages)
- Throughout history, there has always been a pursuit of wealth; meaning, not just “money,” but also power, land, freedom, and possessions. Under a moral, trustworthy government this is not a problem, it is when the government is corrupt that issues tend to proceed. The pursuit of wealth has had a mostly positive with some negative effects on the development of civilization up until this point; some examples include the fall of Rome, capitalist and communist economic systems, and the American Revolution.... [tags: wealth, ]
824 words (2.4 pages)
- Wealth and Poverty Economists estimate wealth and poverty in many ways. The most three common measures are income, possessions (accumulated wealth in the form of money, securities, and real estate), and socioeconomic metrics. Actions in the last category go beyond financial data to account for health, food, infant mortality, sanitation, and other phases of human well-being. Usually, wealth and poverty measured regarding income. Information on income is readily available, credible, and relevant, particularly in discussing poverty in the United States, wherever the inherited wealth is a small factor, and most people live on wages and salaries.... [tags: Poverty, Wealth, Working class, World Bank]
1606 words (4.6 pages)
- Tipping the Scale on Wealth Inequality On November 8th, 2014, The Economist published an online version of its printed article titled “Forget the 1%”, that compared some of the views found in Thomas Picketty’s highly acclaimed book, Capital in the Twenty-First Century (2013), to other recent studies. For example, the article mentioned a 2004 study that focused on estate-tax data performed by Wojciech Kopczuk of Columbia University and Emmanuel Saez of the University of California, Berkley. It also took notice of the results rendered by New York University student, Edward Wolff’s study of Federal Reserve data as it related to consumer finance, and finally the Economist included an up close l... [tags: Wealth, Distribution of wealth, Income, Wealth]
1029 words (2.9 pages)
- According to Francis Fukuyama, he argues that technology will soon make us to rethink our definition of humans. Using the trait ‘Factor X’ to coin the essential trait that people have as leverage or protection from the norm. So the question then becomes what do you consider to be Factor X. I consider the fact that the top 1% of people in this country has access and privileges to some things that the rest of us don’t, many such as health, medicine, education and influence and also protection. Medicine and health is one of the many subjects that separates us.... [tags: Wealth, Working class, Normality]
712 words (2 pages)
- ... When the peasants returned home, the slaves occupied their former jobs, or their land had been purchased to form larger estates, forcing a large influx of people into the city of Rome to search for work. The unprecedented number of people living in Rome created the problems of inadequate housing, sanitation and food. In order to solve this problem, Tiberius Graccus suggested legislation to limit the amount of public land the elite could use as part of their estate. This was widely opposed, leading Graccus to oust his political opposition to pass his legislation.... [tags: wealth, slaves, estate, elite, political]
553 words (1.6 pages)
- ... Smith could foresee that the world in his era had not changed much from the previous period in this regard; the only difference from one era to the next is that the issues were concealed better and are less transparent and these are the issues that were set -forth by Smith. The truth and facts about “Unequal distribution” can cause social division and hatred towards different groups of people due to this fact. Smith of course could foresee the social effect of the unequal division of wealth, as it relates to the contradiction which seems to be at the main cause of the argument.... [tags: poor, wealthy, adam smith]
787 words (2.2 pages)
- Although it has been said that money is the root of all evil, many people actually believe that they would be happier if they were wealthier. Could this be correct. This essay will support the thesis that not only does the pursuit of wealth not lead to happiness; it may actually make us unhappy. Tim Kasser has written an excellent short book describing the scientific evidence relating to materialism and happiness. Kasser gives one striking quotation concerning Jim Clark, the founder of Netscape and other computer companies: "Before Silicon Graphics, Clark said a fortune of $10 million would make him happy; before Netscape, $100 million; before Healtheon, a billion; now, he told Lewis, 'On... [tags: Cause and Effect Essays]
512 words (1.5 pages)