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Feeling wealthy can make you poor

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"Californians have always rented their homes through a mortgage and that's something that has swept the country. People don't stay in a house long enough to own it and they move on to more house than they would have bought under more prudent circumstances given their income level."

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Charles Lieberman, an economist with Advisors Capital Management in Paramus, N.J., says statistics indicate that consumers use more restraint than they're given credit for when it comes to borrowing gains that haven't been realized.

"Any time individuals leverage their accounts it increases their risk. They need to take appropriate risk. Put risk into the context of what other assets are available to the individual. Assets are growing faster than debt. We don't have a good idea of where the money goes when consumers borrow against their homes. We don't know whether they bought something for consumption or whether they reinvested the proceeds.

"I take enormous solace in the fact that during the period when mortgage rates fell sharply and household refinancing was very high that the savings rate, even as poorly measured as it is, declined relatively little and gradually. That suggests that the growth in consumer spending was only a little stronger than the growth in consumer income, so most of the consumer spending was paid for out of current income."

Lieberman says he believes that relatively few homeowners are in over their heads, but that many people don't understand their own financial conditions. He recommends that consumers look at how much it costs on a monthly basis to service their debt versus how much they have in monthly income to cover those costs and meet other cash needs.

Becker, who says people spend too much, advises consumers to do more, or better, budgeting and to be realistic about the lifestyle they can afford.
 
"Be pragmatic about what you buy. Break down your spending and learn how you spend. If you got $50,000 last year, where did it go? Did you do a good job of using the money you had? Most people aren't using their money effectively. Mortgage isn't the serious problem; it's the car payments and credit cards. People buy BMWs. You can't get caught up in those things. Look at cash flow and make sure you're living within your cash flow."

Being a millionaire, or a "hundred-thousandaire," on paper should give you optimism about where you are financially and where you're going. But don't put yourself in a position where you must rely on markets that are beyond your control to constantly skyrocket.

Housing and stock market downturns happen frequently, and sometimes they're prolonged. Make sure you can handle the debt you incur without selling assets you would prefer to hold.

Bankrate.com's corrections policy-- Posted: Dec. 22, 2006
 
 
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