FINANCIAL AND HOUSING WEALTH EFFECTS: A CASE STUDY OF RUSSIA

December 15, 2008

Irina Issakova
Undergraduate student: Department of Economics,
Stanford University, Stanford, California 94305-6072 USA
irina.issakova@stanford.edu

Advisor:
Professor John Taylor
Department of Economics, Stanford University

Abstract

This paper studies the effects of financial and housing wealth on consumption in the Russian
Federation. It uses a newly constructed dataset of quarterly income, consumption, financial
deposits and a housing wealth measure (based on housing prices) in 74 subjects of the Russian
Federation during the years 2000-2007. Previous research on housing wealth effects in Australia,
the United States and across the world has been inconclusive, with some findings of a
statistically significant effect of housing wealth. This paper finds a large and statistically
significant long-term and short-term effect of both housing wealth and financial wealth on
consumption. It finds that the housing wealth effect is larger than that of financial wealth across
econometric specifications.

Keywords: housing wealth, financial wealth, wealth effects, consumption

Acknowledgments: I would like to express profound gratitude to my advisor, Professor John, for
his guidance, support and advice throughout the research process. Likewise, I am also very
thankful to Professor Geoffrey Rothwell for his advice and flexibility throughout the
administrative side of this process.
 I. Introduction

Consumption and the factors affecting it are well-studied topics in economics. Most

research focuses on financial short- and long-term effects of financial wealth, such as stock

market wealth or wealth composed of other financial assets, upon consumption. Recently,

economists have shifted attention to studying housing wealth. Housing wealth consists of the

effects of housing price changes on households’ short- and long-term consumption.

Recently, researchers have focused on the effect of a third type of wealth – wealth

derived from housing prices – on consumption. To date, the results have been mixed, with Case

et al. (2005), Dvornak and Kohler (2007) finding a significant and rather large housing wealth

effect on consumption, while Tan and Voss (2003) do not find a strong housing wealth effect.

The economics behind studying housing wealth result from the combination of the Life-

Cycle theory and the Permanent Income Hypothesis of consumption. The simple interpretation

of the Life-Cycle theory is that people make rational decisions on their consumption

expenditures by “smoothing” out their incomes over their lifetimes. Therefore, a person does not

view their income as an annual salary, but as a present value of all future streams of income. If a

person expects an increase in their future income, she will upwardly adjust her consumption

today or within the next several periods of consumption. What follows is that increases in

housing prices should positively affect consumption because housing wealth is a possible source

of income (e.g. through future sale of the house, possibility of taking out an equity loan, etc.).

What exactly is housing wealth and how can it influence consumption? Housing wealth is

the wealth and potential spending ability that is stored in people’s homes; in other words, it is the

equity in one’s house. As a house’s equity increases, so does the (housing) wealth to the owner

of the house. Theoretically, the owner can spend out of his housing wealth, provided that he can

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turn it into a more liquid asset. In economies with developed mortgage markets, mechanisms

such as home equity loans can turn housing wealth into cash – the most liquid asset. Therefore, a

shock to housing wealth can directly influence a person’s ability to spend.

Furthermore, even in an economy with a limited ability to turn housing wealth into liquid

assets, increases or decreases in housing wealth can have impacts on a households’ spending.

Those effects can be purely psychological. When the price of a household’s dwelling increases

steadily for a number of periods, as was the case in Russia during 2000-2007, the household may

make the decisions to increase consumption, even if the funds do not come directly from the

price of the dwelling. This can be motivated by an anticipation of a future home equity loan or a

sell of the dwelling in the near future.

I use quarterly subject-level data of the Russian Federation on income, housing prices and

consumption to explore the housing wealth effects on consumption. Russia is divided into 83

federal subjects, which are comparable to states in other countries. Many studies of this nature

use annual, country-level data (Carroll 2004, Catte et al. 2004, partly Case et al. 2005) to

estimate the effects of different types of wealth. Previous research has found that financial and

housing wealth tend to be highly correlated, but case Case et al. (2001) suggest that this

collinearity can be reduced by using state-level data. This paper offers a more in-depth look at

the housing wealth effect, covering a considerable amount of time – 28 quarters.

Section II briefly discusses the recent research on wealth effects on consumption,

outlining the methods that have been used to estimate these effects. Section III describes the

methodology followed in this paper, as well as dataset and how it has been constructed. Section

IV gives the descriptive statistics of the dataset and goes over the statistical results from the

regressions analysis. Section V concludes the paper and provides some ideas on further study.

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 II. Literature Review

I use mainly four papers to guide my research methods. Tan and Voss (2003) use

quarterly, state-level data to student the separate effects of financial and non-financial, household

wealth on consumption in Australia. The authors find that they can reject the simple permanent

income model because of evidence that consumption changes can be predicted by past

information. They also find a steady-state relationship between consumption, labor income and

household wealth and a larger long-run effect of non-financial wealth that financial wealth.

As part of a larger study of housing markets, wealth and the business cycle in OECD

economies, Catte et al. (2004) consider housing wealth effects on consumption separately from

other “financial or productive assets.” They use a panel data set of 10 OECD countries with

annual observations on income, consumption and the different measures of wealth. They find

significant effects of housing wealth on consumption. For many countries they study, they find

MPCs of consumption out of housing wealth to be larger than out of financial wealth, both in the

short- and long-term. For example, they estimate the long-run MPCs out of housing wealth

between 0.05 and 0.08 annually for Australia, Canada, the Netherlands, the United Kingdom and

the United States, while the long-run MPCs out of financial wealth for the same countries is

between 0.03 and 0.06. Finally, Catte et al. (2004) find that the long-term effect of housing

wealth on consumption is positively correlated with the mortgage market size. This makes sense

– the more able people are to borrow against the equity on their house, the more they are able to

“enjoy” their housing wealth and adjust their spending to the shocks to their housing wealth.

I use the research methodology and model specifications of Case et al. (2005) as the main

guides of my research. Case et al. are interested in the differential effects of the stock market and

housing assets on consumption. Using two data sets – an international panel of 14 countries and

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a panel of U.S. states – to address the relationships between stock market wealth, housing wealth

and household consumption, the authors find weak evidence of a stock market wealth effect. At

the same time, they find strong evidence of a housing wealth effect on consumption in both data

sets. Their findings are consistent to different model specifications, including OLS, GLS and the

Error Correction Mechanism. In all, the authors support the conclusion that changes in housing

prices have larger impacts on consumption in developed countries than changes in stock market

wealth.

Dvornak and Kohler (2007) build their research on Case et al. (2001), and likewise break

down wealth effects into stock market wealth and housing wealth, studying a panel data set of

five Australian states. The authors use five variables in their estimation – consumption, income,

stock market wealth, net dwelling wealth (housing wealth) and net “other” financial wealth,

which captures the effect of financial assets not included in the stock market wealth variable.

They use median dwelling prices and the number of dwellings to construct the dwelling wealth

variable. Therefore, in this study, the authors use a housing wealth variable that is the “leftover”

housing wealth after taking into account the debt on that housing. I will revisit this issue in the

discussion of my data.

The authors find that the variables are non-stationary and co-integrated (Dvornak and

Kohler, 2007). Non-stationary variables mean that the mean income, consumption and wealth

variables tend to increase over time. The fact that the variables are co-integrated means that there

is a stable, long-term relationship between consumption and the different measures of wealth.

Therefore, for this type of non-stationary and co-integrated panel dataset, the authors use both a

standard fixed-effects model and an instrumental variable (IV) version of the standard fixed-

effects model to estimate average wealth effects. The third estimator they use is the panel

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dynamic OLS (DOLS) estimator – the panel equivalent of Stock and Watson’s (1993) DOLS

estimator. This estimator is appropriate for Dvornak and Kohler’s small sample of 5 states and

“yields valid standard errors in the presence of non-stationary, co-integrated data.” The

regressions are run on the data in levels, as opposed to logarithms, and the coefficients can be

directly interpreted at marginal propensities to consume (MPCs) out of the different types of

wealth. The study is mainly empirical and the authors find that both household and financial

wealth have significant long-run effects on households’ consumption.

This paper takes on the approaches of Case et al. (2005) and Dvornak and Kohler (2007)

and applies them to a new, large dataset to find whether the previous conclusions of significant

housing wealth effects will hold in this case.

III. Methodology and Data

I estimate both the short- and long-run effects of housing wealth and financial wealth on

consumption, using quarterly data from 2001-IV to 2007-IV on more than 70 subjects of the

Russian Federation. The basic economic model results from the combination of the Life Cycle

and Permanent Income hypotheses, which posit that a person’s consumption depends on her

lifetime income and wealth. Essentially, the person calculates her expected income and wealth

over the life-time by looking at present value of her life-time earnings and other wealth and then

makes consumption choices based on those expectations. Therefore, a key conclusion from the

two hypotheses is that, in the long-term, individuals’ consumption decisions respond only to

permanent, not transitory, changes in their expected life-time income and wealth. Therefore,

transitory changes in income and wealth should not have significant long-term effects on

consumption.

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 As we have already seen, the Life Cycle and Permanent Income hypotheses point to

income and wealth as key determinants of consumption. From this, I arrive to the following

long-run specification:

𝐶 𝑡 = 𝛽0 + 𝛽1 𝑌 𝑡 +𝛽2 𝑊 𝑡 + 𝑣(𝑡) (1)

where C is consumption, Y is income and W is measure of financial wealth. All variables can be

expressed in either levels or logarithms. In my analysis, I further parse the general wealth

variable W into financial and housing wealth. If expressed in levels, the coefficients are

interpreted directly as MPCs with respect to the independent variable. If the variables are

expressed in logs, then the coefficients will be interpreted as elasticities and have to be converted

into MPCs. I follow Catte et al. (2004) and convert coefficients into MPCs by dividing by the

ratio of the respective variable to consumption, using the average values of these ratios over the

sample period.

I have collected quarterly data from 2001-IV to 2007-IV on pre-tax income,

consumption, financial deposits and housing prices for more than 80 subjects of the Russian

Federation from various Russian statistical publications. I obtain quarterly data on monthly

income and consumption across subjects from a quarterly publication called Sotsial'no-

ekonomicheskoe polozhenie [District of Russian Federation] federal'nogo okruga.” I obtain

quarterly data on financial deposits by individuals across the subjects of Russian Federation from

the website of the Central Bank of Russia. Finally, I obtain housing prices from two sources –

the statistical publication "Zhilishchnoe khoziaistvo v Rossii 2002" and the website of the

Russian Federal State Statistics Service.

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 I use pre-tax income in my data set because data on taxation are not readily available

from Russian statistical publications. Some studies use after-tax income (Tan and Voss, 2003),

which makes sense because it is expected that disposable income is the one that directly affects

consumption. However, I do not consider this difference a great weakness in my models due to

the low levels of taxes paid by the Russian citizens (i.e. tax evasion is rampant). In my dataset,

income and consumption are monthly per capita income and consumption reported on a quarterly

basis.

As a proxy for financial wealth, I use deposits in financial institutions by individuals

reported quarterly. Much previous research has focused on stock market wealth as an estimate of

financial wealth (Case et al., 2005). However, the Russian stock market is still very new and

only a low percentage of the population actually holds assets in the stock market. Therefore,

financial deposits are a more appropriate measure of financial wealth in this case. Finally, I

construct the housing wealth variable use the following formula:

𝐻𝑜𝑢𝑠𝑖𝑛𝑔 𝑊𝑒𝑎𝑙𝑡𝑕 = 𝐻𝑜𝑚𝑒 𝑂𝑤𝑛𝑒𝑟𝑠𝑕𝑖𝑝 𝑅𝑎𝑡𝑒 × 𝐻𝑜𝑢𝑠𝑖𝑛𝑔 𝑃𝑟𝑖𝑐𝑒 × 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐻𝑜𝑢𝑠𝑖𝑛𝑔 𝑝𝑒𝑟 𝑃𝑒𝑟𝑠𝑜𝑛

All variables are averages for the subject and year-quarter, in per capita terms and in real

terms (base quarter: 1999-IV).

I follow Case et al. (2005) regression models closely and use three different model

specifications to estimate the long-run effect of financial and housing wealth on consumption.

The first is a standard OLS regression with subject fixed effects. The subject fixed effects

estimator imposes common slopes across all subjects, but allows for unique subject intercepts:

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𝐶𝑜𝑛𝑠𝑡 = 𝛽0 + 𝛽1 𝐼𝑛𝑐𝑡 +𝛽2 𝐹𝑖𝑛 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 +𝛽3 𝐻𝑜𝑢𝑠 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 + 𝐹𝑖𝑥𝑒𝑑 𝐸𝑓𝑓𝑒𝑐𝑡𝑠 + 𝜀𝑡 (2)

The second is a generalized least squares (GLS) model with serially correlated errors and

subject fixed effects. I use the Prais-Winsten estimator, which assumes that the errors follow a

first-order autoregressive process (AR(1)). The model specification is:

𝐶𝑜𝑛𝑠𝑡 = 𝛽0 + 𝛽1 𝐼𝑛𝑐𝑡 +𝛽2 𝐹𝑖𝑛 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 +𝛽3 𝐻𝑜𝑢𝑠 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 + 𝐹𝑖𝑥𝑒𝑑 𝐸𝑓𝑓𝑒𝑐𝑡 + 𝜀𝑡 (3)

The third model is an ordinary OLS on the first differences of consumption, income,

financial wealth and housing wealth. The coefficients can then be interpreted as the effects of

changes in income, financial wealth and housing wealth on changes in consumption:

Δ𝐶𝑜𝑛𝑠𝑡 = 𝛽0 + 𝛽1 Δ𝐼𝑛𝑐𝑡 +𝛽2 Δ𝐹𝑖𝑛 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 +𝛽3 Δ𝐻𝑜𝑢𝑠 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 + 𝐹𝑖𝑥𝑒𝑑 𝐸𝑓𝑓𝑒𝑐𝑡𝑠 + 𝜀𝑡 (4)

Consumption trends are closely associated with trends in income and wealth (Catte et al.

2004) because, under the Life-Cycle/Permanent Income theories, consumption is smoothed over

an individual’s lifetime. This is because as income or wealth rises, the individual upwardly

adjusts the present value of her lifetime earnings and can afford a higher level of consumption.

However, in the short run, consumption can deviate from the long-run equilibrium due to shocks.

Consumption may also lag income and wealth effects. In literature, this deviation is often

estimated as an error correction mechanism (ECM). Therefore, the fourth model I run an ECM,

which is often employed in the presence of unit roots and when the series are co-integrated. The

specification is the following:

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Δ𝐶𝑜𝑛𝑠𝑡 = 𝛽0 + 𝛽1 Δ𝐶𝑜𝑛𝑠𝑡−1 + 𝛽2 Δ𝐼𝑛𝑐𝑡 +𝛽3 Δ𝐹𝑖𝑛 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 +𝛽4 Δ𝐻𝑜𝑢𝑠 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 +

𝛽5 𝐶𝑜𝑛𝑠𝑡−1 − 𝐼𝑛𝑐𝑡−1 + 𝐹𝑖𝑥𝑒𝑑 𝐸𝑓𝑓𝑒𝑐𝑡𝑠 + 𝜀𝑡 (5)

This model is estimated in changes in variables since the first-difference time-series of

each the four variables are stationary. This model specification includes a one-period lagged

consumption term to reflect the fact that consumption in any period depends on the consumption

in the previous period.

The second ECM model is a two-step process. First, I re-run the regression in equation

(2) with subject fixed effects to estimate predicted residuals. Then, the ECM model takes on the

following specification, where 𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙𝑠 are the predicated residuals from the first regression:

Δ𝐶𝑜𝑛𝑠𝑡 = 𝛽0 + 𝛽1 Δ𝐼𝑛𝑐𝑡 +𝛽2 Δ𝐹𝑖𝑛 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 +𝛽3 Δ𝐻𝑜𝑢𝑠 𝑊𝑒𝑎𝑙𝑡𝑕𝑡 + 𝛽4 𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙𝑠𝑡−1 +

𝐹𝑖𝑥𝑒𝑑 𝐸𝑓𝑓𝑒𝑐𝑡𝑠 + 𝜀𝑡 (6)

The coefficient on financial wealth and housing wealth is an estimate of the respective

short-run MPCs. The coefficient on the 𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙𝑠 variable is the error correction mechanism

and indicates how fast consumption reverts to the equilibrium. This coefficient should be

negative – if consumption in the previous period was higher than the equilibrium consumption,

the predicted residual (𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙) will be positive and a negative coefficient will mean a

decreased consumption in the current period. On the opposite hand, if consumption in the

previous period was lower than the equilibrium consumption, then the predicted residual

(𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙) will be negative and a negative coefficient will mean that, in the current period,

consumption will be decreasing and reverting to its equilibrium.

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 IV. Results

Descriptive Statistics

Figures 2A and 2B plot financial wealth and housing wealth against consumption, for all

subjects and quarters. Note that all variables are in logarithmic form. Both show that financial

wealth and housing wealth are strongly positively correlated with consumption. The correlation

coefficients with consumption, reported in Table 3, are 0.78 for financial wealth and 0.68 for

housing wealth. The correlation coefficients are estimated for the variables in logarithmic form.

The correlations between the variables in levels were also estimated and were slightly higher (by

about 0.02) than those estimated from variables in logarithmic form. They are not reported, but

available upon request.

Figures 3A, 3B and 3C plot changes in financial wealth and housing wealth against

changes in consumption, for all subjects and quarters. Figures 3B is equivalent to 3A, except it

“zooms into” the data by imposing the same range of changes in financial wealth (x-axis) as the

range of changes in housing wealth in figure 3C. Therefore, it makes more sense to compare

figures 3B and 3C to each other. The two plots are fairly similar. Change in housing wealth

seems to have slightly higher variability within the range of -40% to 40% and clusters around 20-

30%, while change in financial wealth varies slightly less and clusters around 10-20%. However,

figure 3B is only a subset of all observations of changes in financial wealth (albeit a subset that

includes a great majority of the observations). Figure 3A shows that, in fact, financial wealth has

higher variability than housing wealth overall, with “drastic” changes such as more than -300%

or 300%.

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 Finally, Table 3 reports the correlations between change in financial wealth and change in

consumption -0.0147, while the correlation between change in housing wealth and change in

consumption is -0.0520. It is interesting to note that changes in housing wealth seem to be

negatively correlated with changes in consumption. One explanation for this might be the ratio of

home owners to home renters in the economy. An increase in housing wealth in this dataset, an

in broader economic terms, is mostly driven by increase in home prices. If the home renters

outweigh home owners in an economy, then as prices of housing increases, home renters need to

curb consumption (and increase savings) to continue paying their rent or saving for future

purchase of a now more expensive house. However, the negative correlation between change in

housing wealth and change in consumption is so small that it is almost negligible. The same

applies to the correlation between change in financial wealth and change in consumption.

Before diving into the results of the regressions, it is useful to take a closer look at the

data. The data on monthly income, monthly consumption, financial and housing wealth span 74

districts of the Russian Federation, 7 years and therefore 28 quarters. In total, there are about

2,053 observations. Table 1 gives selected descriptive statistics on five variables across all

quarters and subjects. The mean monthly income was 2,723 rubles, while the mean monthly

consumption of 1,837 rubles constituted about 67% of income. The mean price of housing over

the period of 2000-2007 across all subjects was 7,566 rubles per square meter, with a high

standard deviation of 4,166 rubles. This makes sense because housing prices were highly varied

across the poorer and richer subjects and all subjects experienced rising housing prices during

those seven years.

Finally, the statistics of financial wealth might look peculiar – they are very small.

However, these are the reported per capita, which means that the financial deposits divided by

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the population in a specific subject yield a statistic that looks very small, because it takes into

account the people who do not actually hold those financial deposits. This also shows how little

money Russian people actually hold in banks. This might be because they spend much of their

incomes in the same period they are received or because they hold their wealth in other assets,

such cash at home or housing. Previous research on which this paper builds does not report

actual financial or stock market wealth values, so it is hard to see whether these financial wealth

values are appropriate.

Table 2 further breaks down the descriptive statistics to the Russian Federation itself and

the seven federal districts into which it is divided. Refer to Figure 1 for a map of the country and

the federal subjects. The lowest mean monthly income over this period of time was 2,249 rubles

in the South Federal District, while the highest mean monthly income was 4,592 rubles in the

Central Federal District. This comes with no surprise seeing that the Central Federal District has

the luck of counting the city of Moscow as part of it. The capital has always boasted the highest

incomes, house prices and, in general, cost of living. Across the seven federal districts,

consumption accounts for about 63-77% of income – an expected finding.

Housing wealth follows similar patterns across the seven federal districts as do

consumption and income. The highest housing wealth measure is in the Central Federal District,

with mean housing wealth of 219,511 rubles per person, while the lowest is 103,433 rubles in the

Far East Federal District. All variables are slightly positively-skewed, indicating that each time

series has a few relatively high values, but most values are concentrated on the left-hand side of

the distribution. This makes sense, as there are some years and subjects within each federal

district that experienced high monthly incomes, consumption, financial and housing wealth

during 2000-2007. Furthermore, all variables and federal districts have kurtosis of less than 4,

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which suggests that most variation in income, consumption and wealth is coming from small

variations as opposed to big swings. The data is symmetric enough to assume a normal

distribution and I therefore proceed with regression analysis.

Regression Analysis

To estimate the long-run MPCs out of financial and housing wealth, I run several

regressions with differing specifications. Results are reported in Table 4. The first model is an

ordinary OLS regression of income, financial wealth and housing wealth on consumption.

Regression (i) includes subject fixed effects and regression (ii) includes both subject and quarter

fixed effects. The variables are in logarithmic form, so the coefficients can be interpreted as

elasticities.

The coefficient on financial wealth varies between -0.022 and 0.070, while the coefficient on

housing wealth is between 0.124 and 0.202. All are significant are significant at the 1% level in

two out of the three cases. Both wealth effects appear to be fairly large and significant, with the

housing wealth effect being much larger. This is consistent with the large effect of housing

market wealth found by Case et al. (2005) in the U.S. state data. The coefficient of 0.124 on

housing wealth can be interpreted as roughly a 1.2% increase in consumption by an individual

when her housing wealth increases by 10%.

The second model is a generalized least squares regression, using a Prais-Winsten

estimator that accounts for serially correlated errors of a first-order autoregressive process. The

serial correlation coefficient varies between 0.271 and 0.750. Nevertheless, the coefficients on

financial wealth and housing wealth do not change dramatically and are still both significant at

the 1% level. The coefficient on financial wealth is now slightly higher at 0.024 and 0.077, while

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the coefficient on housing wealth is slightly lower at 0.134 and 0.149. In this specification, the

effect of housing wealth is still higher than the effect of financial wealth.

In order to determine whether the time series in questions are stationary or first-

difference stationary, I test the consumption, income, financial wealth and housing wealth time

series for all subjects using the Augmented Dickey-Fuller (ADF) tests for unit roots (results of

tests are not reported, but available upon request) within each time series. The hypothesis that

unit roots are present in the time series is not rejected for any series or subject. Next, I run a

panel OLS regression of income, financial wealth and housing wealth on consumption with all

variables in logarithmic form. I test the predicted residuals from this model for stationarity using

the ADF tests and find that the null hypothesis of the presence of unit roots in the residuals is

rejected for almost all subjects. Furthermore, I test the first differences of the same time series

and the hypothesis that unit roots are present in the time series is rejected for each series and

subject at the 1% level. The combination of these tests leads to the conclusion that the

consumption, income, financial wealth and housing wealth are co-integrated and therefore have a

long-run, steady-state relationship. This relationship was modeled in regressions I and II and

these regressions yield valid, non-spurious results.

Moreover, I model this relationship in first differences in regression III. The coefficient

on change in financial wealth is very small and not statistically significant – 0.000 and 0.016,

while the coefficients on change in housing wealth is 0.050 and -0.064, both not statistically

significant. The small, almost zero coefficient on change in financial wealth is consistent with

the findings of Catte et al. (2005). The positive coefficient on housing wealth suggests that a

10% change in housing wealth brings about a 0.5% change in consumption in the same direction.

It is interesting to note that, for this model, the specification that includes both subject and

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quarter fixed effects estimates a negative coefficient on housing wealth. The coefficient of -0.064

can be interpreted as a 0.64% decrease in consumption resulting from a 10% increase in housing

wealth. One explanation for this could be that the consumption of renters is outweighing the

consumption of home owners in the economy and therefore the overall effect of an increase in

housing wealth is a decrease in consumption.

Up to this point, I have attempted to estimate the long-run relationship between

consumption and the two different types of wealth. However, since consumption and wealth are

co-integrated, as evidenced by the ADF tests, in the short-term, consumption can deviate from its

“true” equilibrium. Therefore, it is useful to model the short-term effects of financial and housing

wealth on consumption using an error-correction mechanism (ECM). Table 5 reports the results

of these regressions. Model IV uses an ECM adapted from Case et al. (2005) and described by

equation (5), while model V uses an ECM I construct and which is described by equation (6).

The two models yield inconclusive evidence on the short-run effects of financial and housing

wealth.

The coefficients on change in financial wealth range from 0.001 to 0.023, with the

highest one being the only statistically significant at the 5% level. The general trend emerging

from all regressions is that an increase in financial wealth might cause a small, but positive

increase in consumption. The estimated effect of housing wealth is more varied. The coefficients

range from -0.081to 0.090, with both extremes being statistically significant. Whatever the

direction of the change in consumption due to housing wealth, housing wealth effects still seem

to be greater than financial wealth effects. The coefficient of about -0.09 on lagged change in

consumption is significant at the 1% level, suggesting that a 10% increase in consumption in a

previous quarter results in a 0.9% decrease in consumption in the current quarter.

15
 Finally, the error correction is estimated by the lagged ratio of consumption to

consumption in model IV and the lagged residual from long-run relationship in model V. The

effect appears to be robust across specifications and ranges from -0.579 to -0.730 – quite large

and significant at the 1% level. This is the error-correction mechanism at work and the

coefficient is expected to be negative. The coefficient tell us that, as an individual’s ratio of

consumption to income deviates from the equilibrium and increases by 10%, the individual

adjusts consumption down rather aggressively by about 58-73% in the following period. It also

means that the individual does not have time to adjust consumption in the same period as the

change in income takes place. Furthermore, this short-run adjustment is made unless the increase

in consumption is “backed up” by an increase in income, in which case the ratio of consumption

to income does not deviate too much from the equilibrium. In other words, a large and negative

coefficient is consistent with the permanent income hypothesis – in the long-run, decisions about

consumption are made based on the individual’s expected life-time income and wealth and are

not highly susceptible to temporary shocks.

Since MPCs are more intuitive to interpret than elasticities, I convert the estimated short-

and long-run elasticities into MPCs of financial and housing wealth by dividing the elasticities

by the average ratio of the respective variable to consumption. Table 6 reports the MPCs. The

long-run MPC out of financial wealth is somewhere between 0.11 and 31, while the short-run

MPC is between 0.32 and 2.15. The long-run MPC out of housing wealth is 0.002, while the

short-run MPC is negligible. Both the short- and long-run MPC out of housing wealth is lower

than the short- and long-run MPC out of financial wealth, indicating the relative difficulty to

consume out of an asset that is highly illiquid in this economy, such as housing wealth. One

reason the short-run MPC of housing wealth is negligible might be because of the difficulty of

16
turning housing wealth into a liquid asset and the absence of mechanisms to do it (e.g. home

equity loans). The long-run MPC out of housing wealth suggests that a 1 ruble increase in

housing wealth results in about 0.002 ruble increase in consumption.

On the contrary, the financial wealth asset is highly liquid – an individual can easily

spend out of his financial deposits in a bank and the long-run MPC shows that a 1 ruble increase

in financial deposits might result in a 9-30 ruble increase in consumption. This is a surprising

result, given that MPCs are usually lower than 1. One way to check the result and come up with

a more robust estimate of MPCs of both financial and housing wealth is to run the regression

directly on the variables in levels. The coefficients could then be directly interpreted as MPCs.

V. Conclusion

This paper has examined the way financial and housing wealth affects consumption in

both the short- and long-term, using a new dataset of 74 subjects of the Russian Federation.

Using several econometric specifications, the results point to a strong and significant long-term

housing wealth effect and a weaker and smaller financial wealth effect upon consumption. These

findings are consistent with previous research (Catte et al., 2005; Dvornak, Kohler, 2007) and

are important considerations for policy-making.

Further improvements can be made to address this question of study. One weakness of

the dataset used in this paper is the use of financial deposits by individuals in banks as a measure

of financial wealth. Due to the developing nature of the Russian financial system and limited

available data on individuals’ financial assets, it makes sense to use this type of financial wealth

variable. However, if studying other countries with more developed and older financial systems,

17
it would be perhaps more appropriate to use other measures of financial wealth, such as savings,

stock market wealth and others.

18
 Figure 1. Map of the Russian Federation and Its 83 Subjects

Source: Wikipedia
Note:
1
"Oblast," "republic," "autonomous okrug," "krai," "federal city," or "autonomous oblast" are different names
for regions that have arisen historically. All are considered subjects.

19
Figure 2A. Log Financial Wealth vs. Log Consumption Across All Subjects and Quarters.

Figure 2B. Log Housing Wealth vs. Log Consumption Across All Subjects and Quarters.

20
Figure 3A and 3B. Percent Change in Financial Wealth from Previous Quarter vs. Percent Change in Consumption Across All Subjects and Quarters.

Figure 3A Figure 3B

Figure 3C. Percent Change in Housing Wealth from Previous Quarter vs. Percent Change in Consumption Across All Subjects and Quarters.

21
22
23
24
25
26
 Table 1. Descriptive Statistics of Selected Variables, Across All Quarters and Subjects
(in rubles)

Monthly Income Monthly Consumption Financial Wealth Price of Housing2 Housing Wealth
Mean 2,723 1,837 5 7,566 112,267
Median 2,336 1,599 4 6,638 94,700
Standard Error
of the Mean 37 25 0.11 92 1,512
Standard Deviation 1,671 1,151 5 4,166 68,499
Min 23 -2,384 0.00 1,244 13,849
Max 18,480 10,647 70 52,705 716,909
Skewness 2.90 3.18 5.90 3.84 2.53
Kurtosis 17.42 19.33 58.22 33.18 16.36

Number of
Observations 2053 2053 2053 2053 2053

Note:
1
All variables are in levels, per capita, in real terms (adjusted for inflation).
2
Per square meter, not per capita.

27
 Table 2. Descriptive Statistics of Selected Variables for the Russian Federation and Six Federal Districts, Across All Quarters

Monthly Income Monthly Consumption

Central North West South Ural Siberian Far East Privolzhsky Central North West Ural Siberian Far East Privolzhsky
Russian Federal Federal Federal Federal Federal Federal (Volga) Russian Federal Federal South Federal Federal Federal (Volga)
Federation District District District District District District Federal District Federation District District Federal District District District District Federal District
Mean 3,101 4,592 3,481 2,249 3,979 2,756 3,584 2,568 2,219 3,454 2,343 1,729 2,502 1,920 2,282 1,838
Median 2,952 4,421 3,250 2,025 3,620 2,634 3,511 2,344 2,109 3,369 2,190 1,619 2,200 1,815 2,211 1,674
Standard Error of the Mean 173 307 216 154 250 166 224 167 106 160 129 115 180 107 124 112
Standard Deviation 848 1,626 1,141 818 1,320 876 1,187 884 521 845 685 607 954 568 657 593
Min 1,737 692 1,823 840 1,985 1,266 1,633 1,171 1,353 1,234 1,395 565 1,051 882 1,242 919
Max 5,155 8,594 6,046 4,337 7,455 4,843 6,589 4,773 3,405 5,193 3,847 3,233 4,805 3,187 3,727 3,238
Skewness 0.52 0.11 0.50 0.70 0.83 0.48 0.51 0.71 0.50 -0.13 0.61 0.57 0.74 0.34 0.35 0.66
Kurtosis 2.82 3.41 2.35 3.12 3.26 2.70 2.94 2.86 2.55 3.33 2.26 3.02 2.72 2.38 2.24 2.56
Number of
Observations 24 28 28 28 28 28 28 28 24 28 28 28 28 28 28 28

Price of Housing2 Housing Wealth

Central North West South Ural Siberian Far East Privolzhsky Central North West Ural Siberian Far East Privolzhsky
Russian Federal Federal Federal Federal Federal Federal (Volga) Russian Federal Federal South Federal Federal Federal (Volga)
Federation District District District District District District Federal District Federation District District Federal District District District District Federal District
Mean 8,611 13,875 9,627 7,141 9,404 8,269 8,291 8,159 122,841 219,511 138,838 114,613 135,142 114,740 103,433 119,782
Median 7,935 11,745 9,578 6,681 7,680 7,082 8,001 6,956 109,625 174,055 129,220 105,868 102,132 94,121 96,057 96,554
Standard Error of the Mean 517 1,263 700 438 619 518 512 572 9,862 25,117 14,223 8,252 12,434 9,479 8,619 11,368
Standard Deviation 2,531 6,683 3,706 2,316 3,276 2,740 2,708 3,029 48,312 132,908 75,261 43,663 65,792 50,158 45,610 60,151
Min 5,601 7,032 5,539 4,352 5,495 4,778 4,909 5,195 64,402 82,720 53,357 61,260 59,331 53,290 47,405 57,817
Max 15,419 26,883 16,481 12,212 16,251 14,539 13,850 14,378 248,881 490,001 293,502 212,458 275,076 230,851 201,453 247,689
Skewness 1.17 1.01 0.69 0.86 1.15 0.96 0.55 1.15 1.09 1.04 0.82 0.84 1.10 0.97 0.65 1.10
Kurtosis 3.77 2.57 2.26 2.79 3.00 2.86 2.07 2.88 3.50 2.64 2.49 2.79 2.91 2.86 2.23 2.85
Number of
Observations 24 28 28 28 28 28 28 28 24 28 28 28 28 28 28 28

Financial Wealth
Central North West South Ural Siberian Far East Privolzhsky
Russian Federal Federal Federal Federal Federal Federal (Volga)
Federation District District District District District District Federal District
Mean 6 13 8 3 7 4 6 5
Median 6 11 7 3 7 4 6 4
Standard Error of the Mean 0.50 1.22 0.76 0.24 0.56 0.32 0.51 0.38
Standard Deviation 2 6 4 1 3 2 3 2
Min 2.60 4.20 2.79 1.47 2.71 1.69 2.29 2.01
Max 11 27 16 6 13 7 11 9
Skewness 0.38 0.57 0.58 0.58 0.40 0.38 0.35 0.52
Kurtosis 2.14 2.27 2.18 2.40 2.11 2.06 2.01 2.18
Number of
Observations 24 28 28 28 28 28 28 28

Note:
1
All variables are in levels, per capita, in real terms (adjusted for inflation).
2
Per square meter, not per capita.

28
 Table 3. Correlations Between Key Variables
Consumption Income Financial Wealth Housing Wealth
Consumption 1
Income 0.9414 1
Financial Wealth 0.7780 0.7294 1
Housing Wealth 0.6837 0.6376 0.6101 1

Change in Change in Change in Change in

Consumption Income Financial Wealth Housing Wealth
Change in Consumption 1
Change in Income 0.7692 1
Change in Financial Wealth 0.0147 0.0201 1
Change in Housing Wealth -0.0520 -0.0862 0.0203 1

Note:
1
All variables are in logarithms, per capita, in real terms (adjusted for inflation).

29
 Table 4.
Long-Run Effects of Income, Financial Wealth and Housing Wealth on Consumption
Based on Quarterly Observations from 2000-IV to 2007-IV by Subject of Russian Federation
All variables are in real terms (base quarter: 1998-IV), measured per capita, in logarithms
(standard errors in parentheses)

I II III
Ordinary Least Squares Generalized Least Squares Ordinary Least Squares
with Serially Correlated Errors2 in First Differences

Dependent Variable Consumption Consumption Change in Consumption

(i) (ii) (i) (ii) (i) (ii)

Income 0.727 ** 0.837 ** 0.706 ** 0.743 **
(0.013) (0.010) (0.013) (0.016)
Financial Wealth 0.022 ** 0.070 ** 0.024 ** 0.077 **
(0.006) (0.005) (0.007) (0.008)
Housing Wealth 0.124 ** 0.202 ** 0.134 ** 0.149 **
(0.010) (0.010) (0.012) (0.021)

Serial Correlation Coefficient 0.271 0.750

Change in Income 0.657 ** 0.504 **

(0.012) (0.018)
Change in Financial Wealth 0.000 0.016
(0.016) (0.014)
Change in Housing Wealth 0.050 -0.064
(0.047) (0.043)

Subject Fixed Effects Yes Yes Yes Yes Yes Yes

Quarter Fixed Effects No Yes No Yes No Yes

Number of Observations 2057 2057 2057 2057 2049 2049

Number of Subjects 74 74 74 74 74 74
Adjusted R2 0.90 0.92 0.95 0.97 0.58 0.7031
Durbin-Watson3 - - 2.02 4
2.40 5
- -

Note:
1
Significance at 5% level is denoted by *; significance at 1% level is denoted by **.
2
Effects of serial correlation are estimates using the Prais-Winsten estimator.
3
The Durbin-Watson statistics is only available for time series data, not panel data.
4,5,6
The transformed Durbin-Watson statistic is reported.

30
 Table 5.
Short-Run Effects of Income, Financial Wealth and Housing Wealth on Consumption
using the Error Correction Mechanism
Based on Quarterly Observations from 2000-IV to 2007-IV by Subject of Russian Federation
All variables are in real terms (base quarter: 1998-IV), measured per capita, in logarithms
(standard errors in parentheses)

IV V
Error Correction Error Correction
Consumption Model 1 Consumption Model 2

Dependent Variable Change in Consumption Change in Consumption

(i) (ii) (i) (ii)

Change in Income 0.720 ** 0.723 ** 0.673 ** 0.671 **
(0.012) (0.017) (0.011) (0.015)
Change in Financial Wealth 0.001 0.016 0.005 0.023 *
(0.012) (0.010) (0.012) (0.010)
Change in Housing Wealth 0.013 -0.081 ** 0.090 ** -0.038
(0.034) (0.031) (0.034) (0.031)
Lagged Change in Consumption -0.091 ** -0.092 **
(0.011) (0.015)
Lagged Ratio of Consumption to Income -0.638 ** -0.579 **
(0.021) (0.022)
Lagged Residual from Long-Run Relationship -0.730 ** -0.642 **
(0.022) (0.021)

Subject Fixed Effects Yes Yes Yes Yes

Quarter Fixed Effects No Yes No Yes

Number of Observations 1976 1976 1976 1976

Number of Subjects 74 74 74 74
Adjusted R2 0.73 0.7985 0.73 0.7982
Durbin-Watson2 - - - -

Note:
1
Significance at 5% level is denoted by *; significance at 1% level is denoted by **.
2
The Durbin-Watson statistic is only available for time series data, not panel data.

31
 Table 6. Elasticities and MPCs out Financial and Housing Wealth Resulting from Different Regression Models 1

I II III IV V
Ordinary Least Squares Generalized Least Squares Ordinary Least Squares Error Correction Error Correction
with Serially Correlated Errors in First Differences Consumption Model 1 Consumption Model 2
Long-Run Long-Run Long-Run Short-Run Short-Run

Financial Wealth
Elasticity 0.022 0.077 0.000 0.001 0.005
Financial Wealth to Consumption Ratio2 0.003 0.003 0.003 0.003 0.003
MPC 8.85 30.55 0.11 0.32 2.15

Housing Wealth
Elasticity 0.124 0.117 0.050 0.013 0.090
Housing Wealth to Consumption Ratio3 68.822 68.822 68.822 68.822 68.822
MPC 0.002 0.002 0.001 0.000 0.00

Note:
1
The elasticities are from the models estimated with subject fixed effects (category (i)).
2
Average across quarters and subjects.
3
Average across quarters and subjects.

32
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Catte, Pietro, Girouard, Nathalie, Price, Robert and Andre, Christophe. 2004. "Housing Markets,

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Dvornak, Nikola and Marion Kohler. 2007. "Housing Wealth, Stock Market Wealth and

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