Will A Fall in House Prices cause a Recession?

A reader, Rob, offered an interesting comment about the relationship between house prices and consumer spending. From: drop in UK house prices

Why will a drop in house prices effect consumer spending, this has not occurred in the U.S. The only effect a house price drop will have is to stop consumers increasing their borrowing against their property to fund their spend. A recent survey for the BBC indicates a price drop will have little effect on the spending habits of consumers. I believe that most consumers understand that at some point they have to repay their mortgage.

I think the comment raises some interesting issues.

• It is true that so far American growth has been remarkably resilient despite falling house prices. (Growth is still at around 3% in the US). However, I doubt this growth is likely to last. People such as Warren Buffet suggest the US economy has a reasonably good chance of slipping into recession next year. - At the moment the weak dollar is boosting the US exporting sector and helping the US economy.
• Rising house prices have enabled an increase in mortgage equity withdrawal. This is when homeowners borrow against an increase in the value of their house. In 2006, Mortgage equity withdrawal totaled £49.7bn for 2006 as a whole, up from £36.6bn the previous year. If house prices fall, mortgage equity withdrawal will fall sharply. This will have an effect on reducing consumer spending. True it is a small % of total consumer spending, but, is important nevertheless. (source: BBC)
• The biggest effect of falling House prices is on consumer confidence. Many people subconsciously equate a depression in the housing market to a wider economic malaise. People may not feel there is any direct connection between house prices and spending. But, a fall in house prices would have the effect of reducing confidence and expectations, this would make borrowing less attractive. Savings ratio would rise and consumer spending fall (or at least grow at a slower rate)

• The last time annual house prices fell in 1992, it was a major contributing factor to the full blown economic recession. Admittedly there were other factors as well. - Interest rates were very high. (15%) It is possible that the effects of falling house prices could be mitigated if the MPC cut interest rates aggressively.
• A fall in House prices would have a dampening effect on the UK economy. Combined with general fears over high debt and shortage of credit it would be a potential factor in causing a recession.
• However, house prices could definitely fall without a recession occurring. Housing is one of the most important determinants of spending, but, there are many other factors as well. If house prices do fall. I would expect the MPC to cut interest rates by up to 0.75% next year and this could maintain consumer spending.
• However, ff there was a rise in cost push inflation (oil and stronger pound) this could make it more difficult to reduce interest rates.