The Hidden Impact of Housing Misvaluation on Household Spending, Saving, and Investment

Homeowners frequently misjudge the value of their homes, often by tens of thousands of dollars and these belief-driven errors significantly alter how much they invest, save, and consume. The study shows that perceived, not actual, housing wealth shapes key financial decisions, reducing stockholding, boosting consumption, and shifting households toward safer assets.

A new working paper from the European Central Bank (ECB), authored by Stefano Corradin, José L. Fillat, and Carles Vergara-Alert, uncovers an influential yet largely overlooked driver of household financial behavior: the widespread misestimation of home values. Drawing on nearly four decades of U.S. data, the researchers show that although the average homeowner modestly undervalues their home, the variation is enormous. While the mean mispricing is around –$7,600, the standard deviation approaches $60,000, revealing that millions of households operate with significant, persistent misperceptions of their housing wealth. These valuation errors are lowest immediately after a purchase, anchored by the closing price, but drift steadily as years pass and homeowners lose touch with actual market movements.

Why Misestimation Matters More Than We Think

Despite its prevalence, most economic models assume that homeowners know exactly what their homes are worth. This study challenges that assumption by demonstrating how perceived house values, not actual ones, shape decisions across saving, consumption, and portfolio allocation. Demographic traits such as income, education, age, and marital status explain little of the variation in misestimation, suggesting that valuation errors are a near-universal behavioral tendency rather than a symptom of financial illiteracy. In many cases, homeowners update their beliefs slowly, relying on outdated cues or anchoring on past values, while market prices evolve in ways they may not observe firsthand.

A Model of Belief-Driven Choices

To illuminate how these distorted perceptions drive behavior, the authors develop a theoretical model in which households must decide how much to consume and how to allocate liquid wealth between risky stocks and safe assets while owning a risky, illiquid home. When a homeowner overvalues their house, they believe they are wealthier and already exposed to substantial housing risk. This perceived risk leads them to pull back from equities, increase their holdings of safer assets, and spend more. Conversely, those who undervalue their home feel poorer and behave more aggressively in financial markets. The model introduces a realistic behavioral dimension missing from traditional portfolio theory: households act on beliefs, not necessarily on facts.

Evidence From Nearly Four Decades of Data

The empirical analysis matches the model’s predictions with striking precision. A one-standard-deviation overvaluation, roughly $60,000, reduces the share of liquid wealth allocated to stocks by 1.1 to 1.9 percentage points. Some households go further, withdrawing from the stock market entirely: participation falls by 1.5 to 3.6 percentage points under comparable misperceptions. The consumption effects are equally notable. Households that believe their homes are worth more consume more, increasing spending by 1.5 to 4.3 percent relative to liquid wealth. Risk-free asset holdings also rise, consistent with a shift toward caution. Importantly, these results hold even after controlling for actual house prices, mortgage debt, income, and regional conditions. The authors strengthen causality by using instruments based on housing transaction volume and Google search intensity for real-estate terms, which influence the accuracy of local information but not household investment behavior directly.

Implications for Households and the Economy

The study reframes how economists and policymakers should think about wealth effects and financial decision-making. Housing is the primary asset for most families, yet the value households assign to it is often wrong, and those errors generate real behavioral consequences. When millions simultaneously misjudge their housing wealth, aggregate investment patterns, consumption cycles, and risk exposures may shift independent of actual economic fundamentals. These findings suggest that improving access to reliable, frequent, and comprehensible home-value information, through better valuation tools, clearer appraisal standards, or enhanced financial guidance, could meaningfully reshape household financial outcomes. By revealing belief-driven mispricing as a powerful and pervasive force, the ECB researchers highlight a dimension of household finance that has long been hiding in plain sight, with implications reaching far beyond the walls of any single home.