Economics • Economic BasicsMedium
In macroeconomics, what does a 'Liquidity Trap' situation imply?
A. Interest rates are very high and people hoard cash
B. Interest rates are near zero and monetary policy becomes ineffective✓ Correct Answer
C. Central banks have excess liquidity to lend to commercial banks
D. Commercial banks refuse to lend due to high non-performing assets
💡 Solution & Explanation
A liquidity trap occurs when nominal interest rates approach zero and the public prefers holding liquid cash rather than investing in bonds because expected future returns are negligible. Under this condition, aggressive monetary expansion by central banks fails to stimulate economic growth or aggregate demand. Macroeconomic concepts regarding monetary policy failure are standard testing areas in economics papers.
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