Housing, portfolio choice, and wealth accumulation over the life cycle

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Abstract:

Households become homeowners when they are relatively young and invest in financial assets later in their lives. Among them, the richest usually hold a larger proportion of risky financial assets in their portfolios. Understanding these patterns and how they relate to the risks households face is important not only to better understand household economic decisions, but also to better evaluate policies that affect wealth accumulation over the life cycle. I show that these features can be explained by a rich life-cycle model with housing and portfolio choice that includes flexible earnings risk and aggregate asset price risk. I then use the model to study the elimination of the Home Mortgage Interest Deduction (HMID) and find that, while the policy has a mild impact on homeownership, it encourages stock market participation and the accumulation of financial assets by providing cheap financing, particularly for people in the middle to upper part of the wealth distribution.