The Wealth Effect Essay

The Wealth Effect Essay

Length: 3906 words (11.2 double-spaced pages)

Rating: Powerful Essays

Open Document

Essay Preview

The Wealth Effect

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:
7.)     U.S. Census Bureau. 2001.
8.)     Swanson, KC. Is the “negative wealth” effect all its cracked up to be. The 29 March 2001.

Need Writing Help?

Get feedback on grammar, clarity, concision and logic instantly.

Check your paper »

Globalization: Its Effect of Wealth Essay

- ... 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]

Powerful Essays
2568 words (7.3 pages)

Essay about The Effect of the New Deal on Ethnic Women's Wealth

- 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]

Powerful Essays
1693 words (4.8 pages)

Effects of Sudden Wealth on the Winners Essay

- “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,]

Powerful Essays
512 words (1.5 pages)

Pursuit of Wealth Essay

- 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, ]

Powerful Essays
824 words (2.4 pages)

Essay about The Effect of the Slave Wars on the Rise of a Roman Imperial State

- ... 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]

Powerful Essays
553 words (1.6 pages)

Essay on The Effect of Money on Fitzgerald´s characters

- Francis Scott Fitzgerald both created characters that were wealthier than the other characters in their novels such as Tom and Daisy Buchanan, Jay Gatsby, and the Percy Washington and his father in a Diamond as big as the Ritz as well as Anson in The Rich Boy and even Mr. Fitzgerald has; exhibiting traits that set them apart from world. His characters disregard others around them not caring about the people they encounter and showing a lack of empathy for others, they have no contempt for their objects because they can simply replace them, thereby ascribing very little value to their things, and they go out their way to use money to cover up their mistakes....   [tags: wealth, Scott Fitzgerald, Rich Boy, Gatsby]

Powerful Essays
1911 words (5.5 pages)

Essay on Unequal Distribution of Wealth

- ... 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]

Powerful Essays
787 words (2.2 pages)

The Common Wealth of the Bahamas Essay

- The economy of the Bahamas is heavily reliant on tourism. Tourism is important because it employs 60% of the work force and represents 70% of the economy. The main attractions of the Bahamas is the white sandy beaches and close proximity to the United States. The temperature is warm all year, making it a popular destination all year round especially for people who don’t like the snow and cold. Tourism also helps bring new ideas and cultures to the area. Tourism helps in many ways both financially and culturally....   [tags: tourism, economy]

Powerful Essays
1458 words (4.2 pages)

Cause and Effect Essay - Money Causes Unhappiness

- 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]

Powerful Essays
512 words (1.5 pages)

Christians, Wealth and Poverty Essay

- Christians, Wealth and Poverty The Bible does not say that money is bad. However, what it does say is that it is "the love of money is the root of all evil", a powerful message. The Bible also says "no one can serve two masters". What this means is that you cannot be too attached to your money or it will lead you away from the one true master, God. It means you cannot use your money in selfish or bad ways, but rather for the good of others. Christians are expected by their faith to earn their living by honest means....   [tags: Global Poverty Essays]

Powerful Essays
1638 words (4.7 pages)