How Home Sales Stimulate the Economy

Economists' Commentary: How Home Sales Stimulate the Economy

March 27, 2009

By Danielle Hale, Research Economist

 

The sale of new homes is associated with a direct contribution to GDP, based on the value of construction put in place. However, the sales prices for existing homes do not enter into the calculation of the nation's domestic output because the transaction does not represent new production. For those reasons, some people may believe that the sale of an existing home does not have an impact on GDP; this is wrong. Purchases related to the transaction of existing home sales are included in GDP. For example, all payments for services rendered, such as those by a real estate agent, home inspector, attorney, or loan originator, are included. These activities involve actual labor hours for the value the service provided adds to the transaction.

The National Association of Realtors® estimates that each home sale at the median generates $63,101 of economic impact (2008). We conservatively estimate that commissions, fees, and moving expenses associated directly with the purchase are about 9 percent of the median home price (we use an annual price because of seasonal fluctuation in home prices). Furnishing and remodeling expenses are a little more than $5,000 based on a Harvard Joint Center for Housing Studies figure.

Further, all economic activity produces a multiplier effect. The multiplier effect is how we estimate the fact that income earned in other sectors of the economy as a result of a home sale is then re-circulated into the economy. In this case the income earned by those working to complete the home sale, by movers, attorneys, inspectors, and furniture salesmen, generates another round of purchases by them and income for others. The multiplier effect depends on the degree of monetary policy accommodation and the "crowding out" effect. The National Association of Realtors®' macroeconomic modeling suggests that the multiplier is between 1.34 and 1.62 in the first year or two after an autonomous increase in spending. This means that each dollar increase in direct housing activity will increase the overall GDP by $1.34 to $1.62.

Finally, because existing home sales have typically been associated with new construction at a ratio of eight to one, we add in one-eighth of the new home price to approximate the value of this construction being added to GDP.

Impact of Single Existing Home Purchase

   

 

Median Price

$198,100

     

Real Estate Industries

Furniture

Multiplier

New Housing

Total

 $   17,829                  +

$   5,331            + 

 $   11,117    +

 $   28,825     =

 $   63,101

 

Aside from this direct and measurable impact to the economy, there are important but less easily measured effects of home sales, especially in the current environment. As home sales occur, they help to reduce inventory1. Lower inventory reduces downward pressure on home prices which brings more buyers into the market and ultimately helps prices stabilize. As home prices stabilize, the equity or wealth of home owners, whose largest asset is often their home, also stabilizes. This stabilization of wealth removes a major downward pressure on consumer spending that exists right now2 and will help stabilize GDP3. Furthermore, a housing recovery will stem the bleeding in bank balance sheets and help to steady financial markets, ultimately putting the economy back on track for sustainable growth.

For a one-page snapshot of the measurable impact of an existing home purchase, check out this PDF.

 


[1] Inventory in the last year has been between 9 and 11 months supply whereas normal inventory conditions have tended to be between 4 and 6 months of supply on the market. 

[2] Studies show that the “wealth effect,” the tendency of consumers to consider changes in wealth in spending decisions, leads consumers to spend $0.06 - $0.08 of any increase in housing wealth.  There are currently not as many studies of the size of the wealth effect when wealth is declining, but we can assume that the effect might be similarly sized.

[3] In 2008 Q4 consumer spending caused a 3.0 percent drag on GDP according to data from the BEA.

 

This is one in a series of commentaries by the Research staff of the National Association of REALTORS®. Read more commentaries >

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