The European Commission has just published a very interesting piece of research on household wealth and its fluctuations in recent years. Household wealth is a very important topic in economic developments because it is really what allows households to finance their expenditures once they have retired (technically to meet their liabilities). Before going into details, let’s just got the semantics right: what do we understand with household wealth. There is a difference between assets and liabilities (net wealth). On the asset side, there are real assets: houses, appartments, land and financial assets: savings deposit, bonds, equities etc. And there are liabilities, typically mortgages and loans.

Change in household wealth is the result of savings (process whereby households put money aside to save for the future) so this is rather stable over time and we have also fluctuations in asset prices. These fluctuations can influence consumer spending. A recent survey of the empirical research conducted by the ECB shows that these wealth effects play a minor, almost negligible role, when looking at fluctuations on property prices, however they play a far more important role when looking at fluctuations in the prices of financial assets: for a one-euro change in financial assets, you have an impact on consumer spending that varies between 1 cent and 7 cents, so actually 1% and 7% as a margin.

When focussing on the recent developments of household wealth, we should start with the pandemic. After the onset of the pandemic, there was a jump in the savings rate which increased from about 13% pre-pandemic to 21% during the pandemic. Three factors played a role in that respect. One was the increase in precautionary savings. The second reason was forced saving (impossibility to go out and spend money during lockdowns). Then the third reason was the income support provided from governments to households. The European Commission estimates that extra savings represent about one trillion euros for the euro area, a huge amount of money.

When we continue our analysis of household wealth, we should also look at what happened to asset prices, to property prices to start with. We have observed during the pandemic an abnormal increase in property values. The European Commission estimates an effect of 4.5 trillion increase in the valuation of property. The final part of the equation is what has happened to financial wealth and that effect was negative.

All in all, there has been excess increase in household wealth of something like 2.7 trillion euros in 2020 and 2021. This represents a very important shock-absorber for the economy. Indeed, households having accumulated savings during the lockdowns can now afford when times get more difficult to save less.

What is important as well is to take into account what is happening to inflation, which is the more recent dominating thematic in economic analyses. What matters for spending decisions of households in the future when they have retired is what is the purchasing power they have accumulated. Households do not tend to suffer from money elusion: they know when their income in nominal terms is increasing in line with inflation, that actually they cannot buy more things because their purchasing power has not increased.

So what really matters is real wealth, that is household wealth adjusted for the dynamics of inflation. Inflation has started to accelerate in the later part of 2021 and then has become a major issue in the course of this year. The implication has been that there has been an erosion of that excess wealth that has been created in 2020 and 2021 due to this elevated inflation. Estimates by the European Commission showed that 50% of this excess wealth accumulation has already been eroded due to the increase in the price level.

This is a very important point because it means that the shock-absorber I was referring to has become significantly less powerful than was the case only one year ago. This is an important element to keep in mind as we are now heading towards a very soft growth environment, a shallow recession. It is an element that is a source of concern. We can actually say that the tailwind we were counting upon has to a large degree lost its power: the support has gone with the wind.