When Demand Creates its Own Supply: Saving Traps

Christophe Chamley

The Review of Economic Studies, 2014, vol. 81, issue 2, 651-680

Abstract: The mechanism by which aggregate supply creates the income that generates its matching demand (called Say's Law), may not work in a general equilibrium with decentralized markets and savings in bonds or money. Full employment is an equilibrium, but convergence to that state is slow. A self-fulfilling precautionary motive to accumulate bonds (with a zero aggregate supply) can set the economy on an equilibrium path with a fast convergence towards a steady state with unemployment that may be an absorbing state from which no equilibrium path emerges to restore full employment.

Date: 2014
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