A liquidity trap arises when

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1. If there is too much deflation:

people will switch from money to real assets.

the nominal interest rate will be constrained by the zero interest rate bound.

lenders will be harmed.

aggregate demand will increase.

2. A liquidity trap arises when:

debt deflation reduces aggregate demand.

conventional monetary policy is ineffective because nominal interest rates are up against the zero lower bound.

expansionary monetary policy has been used to keep the actual unemployment rate below its natural rate.

the expected inflation rate equals the actual inflation rate.

Reference no: EM131379279

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