Economics • Economic BasicsMedium
What is the primary implication of the 'Liquidity Trap' in Keynesian economics?
A. Interest rates fall to zero and monetary policy becomes ineffective as individuals hoard cash.✓ Correct Answer
B. Inflation rises uncontrollably despite high unemployment.
C. Fiscal policy completely crowds out private investment.
D. Banks refuse to lend money to any commercial enterprise.
💡 Solution & Explanation
A liquidity trap arises when nominal interest rates fall close to zero and monetary policy loses traction because economic agents prefer holding liquid cash. Alternative propositions regarding uncontrollable inflation or complete crowding out describe different macroeconomic phenomena rather than this specific interest rate bound. It highlights situations where monetary expansion fails to stimulate aggregate demand.
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