How Consumers Lost a Fast $1.5 Trillion

In Washington these days, there are bitter fights over new types of economic stimulus that might cost $30 billion here, $50 billion there. The biggest battle is over the soon-to-expire Bush tax cuts, and whether they should be extended for everybody or just for the middle class. That's a $700 billion argument. Sounds like real money.

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But the turbulent economy, in its normal course, has vaporized far more money than that, and the astonishing decline in Americans' net worth helps explain why government stimulus has been so ineffective. The latest data from the Federal Reserve shows that American households lost about $1.5 trillion in net worth in just three months, ending at the end of June. That's especially distressing because for a year, Americans had been slowly rebuilding wealth lost in the twin housing and stock market busts. The latest numbers are more evidence that the so-called recovery is slowing, if not ending.

When paired with sky-high unemployment, the wipeout in household net worth explains why gloom pervades virtually every income group. Many Americans worry about job security, but unemployment is a particular scourge among people with the fewest assets: young workers and those without a college or even high school education. Among middle- and upper-income people, the unemployment rate is far lower. But those are the ones whose wealth is eroding.

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And is it ever. Household net worth peaked in 2007 at roughly $64.2 trillion. As home values fell and the stock market tanked, net worth fell to a low of $48.8 trillion in early 2009—a staggering 24 percent decline in just two years. It drifted upward for a while but in the latest quarter fell back to $53.5 trillion. From the peak of 2007, that amounts to about $100,000 in lost wealth per U.S. household.

Net worth is different from income, since it mostly amounts to home equity, durable goods like cars, and the value of savings and investments, like retirement portfolios. Those assets don't typically fund everyday spending. But net worth clearly plays a big role is how well-off consumers feel they are, plus it supports some spending at the margins. During the housing boom, for example, millions of homeowners used home-equity loans or lines of credit to pay for home improvements, cars, vacations, and other things. With many homeowners no longer able to borrow against equity in their homes, those days are largely over. A growing nest egg also breeds optimism, which makes consumers comfortable spending. A shrinking nest egg does the opposite.

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The direction of Americans' net worth closely tracks the stock and housing markets, so it's easy to see why wealth declined in the second quarter. For more than a year prior to that, stocks had been on a tear, rising 83 percent from March 2009 through mid-April 2010. That boosted the value of Americans' financial assets by more than $5 trillion. But the Greek debt crisis ended that rally, and now fears of a double-dip recession have depressed stocks further. Overall, the market has fallen about 8 percent from the April highs. In the Fed's data, losses in financial assets accounted for virtually the entire decline in net worth in the second quarter.

The value of housing held stable—but that's not likely to last, either. We now know that the housing market was heavily stimulated by the home-buyer tax credit that expired on April 30, with sales plunging once the subsidy was removed. Since it takes a few months for home sales to go through, sales numbers lag the real-time economy, and the Fed's numbers don't reflect the latest downturn in housing. But the next set of quarterly data will, and the numbers are poised to go even lower. With home sales off, prices seem nearly certain to continue falling, probably into 2011. That will reclaim even more of the wealth Americans have been able to rebuild over the last year.

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With net worth falling again, jobs scarce, incomes flat, and consumers still deeply in debt, it's no wonder Americans seem stuck in a self-fulfilling cycle of gloom. Washington politicians think they have solutions, but every stimulus or tax incentive that fails to get the job done only breeds more cynicism. Even the Federal Reserve, which has been printing money, after all, hasn't conjured enough magic to offset $10 trillion in lost wealth. Probably nobody in Washington can.

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