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Liquidity Trap

Updated on March 2, 2023

The term liquidity trap signifies an adverse or extreme impact of monetary policy where expansionary monetary policy which increases money supply in the economy fails to raise interest rates, incomes and as a result the economy shows no growth. In such scenarios, the public prefers to hold onto the funds that they have and seek to earn interest at the prevailing rates. People also prefer holding on to cash as they anticipate an oncoming adverse economic condition like deflation, war, etc.

What are the indicators of liquidity trap?

A few indicators of liquidity traps are increasing unemployment rates, an economy recovering from a recession, a deflating economic situation, and prevailing lower interest rates in the economy.