(Corrects spelling of Johns Hopkins in second paragraph.)

April 19 (Bloomberg) -- While the subprime and exotic mortgage fallout has been grabbing recent housing headlines, another potential story for 2007 may be in the wings: as Americans withdraw less equity from their homes will it mean a big or little hit for growth and consumer spending?

The connection between housing and consumption isn't a new story. Economists have long assumed that there is a so-called wealth effect from rising home prices: for each dollar of housing wealth accumulated, people spend anywhere from 4 cents (as conventional economic models predict) to 9 cents, as Johns Hopkins economist Christopher Carroll found in a December study.

Yet, the dramatic expansion of mortgage-equity withdrawal, or MEW, by homeowners over the last decade has raised new and less-settled issues over whether housing wealth now has a greater impact on consumption that ever before. Many -- me included -- have likened home-equity withdrawals to automated-teller machines, with owners literally taking money out of their houses to bolster consumption.

Goldman Sachs Group Inc. has found that consumers spend about 50 cents for each dollar of home-equity extraction and cash-out refinancing. The International Monetary Fund, using a different methodology, has found that 18 cents are spent per dollar of home-equity withdrawal.

Nonetheless, there is no unanimity on the causal connection between mortgage-equity withdrawal and spending assumed by the ATM theory. The Congressional Budget Office, for example, surveyed the equity-withdrawal research in a recent study and said the evidence regarding the size of the effect on spending was ``inconclusive.''

Role to Play

When one looks at the strength of consumption in the face of stagnant wages in the last five years, it is hard not to think that the expansion of equity withdrawal has played a significant role.

Consider that between November 2001 and August 2006, inflation-adjusted wages didn't gain a penny. As of 2005, real median family income was $500 below its 2001 level. All the while, consumption averaged a respectable 3.2 percent between 2002 and 2006. While the negative personal-savings rate provides some explanation, the vast rise in equity withdrawal amid escalating home prices does seem to help complete the puzzle.

The explosion of mortgage-equity withdrawal over the recent housing cycle was given greater prominence by the Federal Reserve, thanks to work by former Fed Chairman Alan Greenspan and Fed economist Jim Kennedy. In December 2005, Greenspan and Kennedy published a new, comprehensive measure of equity withdrawal that went beyond the information provided in the Fed's Flow of Funds data.

Amazing Development

Their research showed an amazing development. Between 1995 and the final quarter of 2005, equity withdrawal grew to 8 percent of the economy from 1 percent -- a whopping 800 percent increase. And as of the fourth quarter of 2005, when total MEW had reached its peak, it stood at $1 trillion annualized.

Also revealing was the way the Fed broke down the withdrawal data into three categories: housing turnover (the equity released when a homeowner sells a house and often plows the capital back into a new home) home-equity extraction, and cash-out refinancing.

This breakdown was helpful because it is the latter two categories that are most likely to drive spending. Goldman Sachs termed these two elements ``active MEW.''

On that score as well, the Fed data showed an amazing expansion. In 1995, active MEW had been $37 billion. By the fourth quarter of 2005, it soared to $532 billion annualized, a 14-fold expansion.

Good News

A strong connection between mortgage-equity withdrawal and consumer spending would be a good-news story if the recent run up in housing wealth were sustainable. The fear this dynamic provokes, however, is that when home prices came down to Earth, mortgage-equity withdrawal would dry up and bring consumer spending down with it.

This idea hasn't yet been fully tested. Active MEW declined moderately in the first half of 2006 from its historic highs. It was only in the second half of 2006 -- when home prices were really starting to show weakness -- that equity withdrawal fell significantly.

By the end of 2006, overall mortgage-equity withdrawal stood at $590 billion annualized, half its year-earlier peak. Active MEW stood at $273 billion, also half its peak, and lower than it had been in every quarter since 2002.

Surprisingly, even with this steep slide, real spending was a bullish 4.2 percent in the final quarter of 2006. The muscular March retail sales report was one more piece of evidence for those skeptical that the causal connection between MEW and consumer spending isn't nearly as robust as some like me have assumed.

Nick of Time

It could also mean that we are seeing some long-awaited wage growth just in the nick of time to help cushion the hit on consumption due to falling equity withdrawals and home prices.

But it is too early to bury falling MEW as a consequential economic event. Those who worry about the impact of mortgage- equity withdrawal caution that there might be a lag of as long as six months between declines in MEW levels and changes in consumption.

Only time will tell. But don't yet count out the potential of declining mortgage-equity withdrawal to join subprime mortgages as one of the more depressing housing stories for 2007.

(Gene Sperling, author of ``The Pro-Growth Progressive,'' was President Bill Clinton's top economic adviser. He is a senior fellow at the Center for American Progress. The opinions expressed are his own.)

To contact the writer of this column: Gene Sperling in Washington at gsperling@cfr.org.

Last Updated: April 19, 2007 15:57 EDT