The Hidden Reason for Americans’ Shrinking Wealthby
Many Americans learned this weekend that they’ve gotten poorer. “The Typical Household, Now Worth a Third Less,” proclaimed the New York Times, citing a new study sponsored by the Russell Sage Foundation (PDF). Median wealth declined more than 35 percent from 2001 to 2013, the study found, while wealth at the 95th percentile grew 14 percent. We can argue about whether America is entering its next Gilded Age, but these trends are important for another reason: They reveal how vulnerable the average American has become to the swings of one market in particular—housing.
Starting around 2001, American families put an increasing amount of their wealth in housing and took on more debt. This came at the expense of other kinds of investments, such as nonhousing wealth, which hasn’t returned to its 2001 peak. The figure below, from the Fed’s Survey of Consumer Finances, plots the median value of different kinds of assets owned by U.S. households:
The median real estate asset value (including primary residence and other property holdings) increased 38 percent with the housing bubble. At the same time, the median value of financial assets such as checking accounts, 401(k)s, stocks, and bonds dropped 9 percent from 2001 to 2007—a time when the Standard & Poor’s 500-stock index was up more than 20 percent. The value of nonfinancial assets—cars, jewelry, business ownership—also fell by 18 percent.
As a result, real estate became a far bigger part of household wealth: Its value increased, and people bought more of it. The disproportionate investment is a big reason median wealth fell almost 40 percent when the housing bubble burst, and also a big reason we still haven’t fully recovered.
Meanwhile, leveraged households took on increasing amounts of debt. The figure below shows the ratio of home equity (value minus debt) to net worth and the ratio of debt to net worth for American households between the 25th and 75th percentiles of wealth.
Home equity increased, but debt increased even more. Overleveraged, underwater households are old news, but this trend is at the heart of the debate over widening wealth inequality.
Richer households have a much larger share of their portfolios invested in financial markets. (They also, by definition, have more money to invest, so it’s easier to spread it around.) Among the wealthiest 10 percent, a little less than half of their portfolios is invested in financial assets, compared with 35 percent in real estate. For the middle 50 percent of households, real estate made up 67 percent of their wealth even after the housing bubble—four times the proportion of financial assets. As financial markets have recovered, wealthy households have gotten wealthier; housing has recovered more slowly, leaving middle-income households lagging behind.
From a financial perspective, the average household is still overexposed to real estate. This has contributed to widening inequality, and Americans are still vulnerable to a single market. It helps that a house isn’t simply an investment—it’s a place to live, and there are benefits to homeownership that fluctuating home values don’t capture. Even so, few investment professionals would recommend concentrating so much wealth in a single, highly leveraged asset. No wonder American wealth still hasn’t recovered.