A Neoclassical Theory of Liquidity Traps

Sebastian Di Tella
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Sebastian Di Tella: Stanford University

Research Papers from Stanford University, Graduate School of Business

Abstract: I propose a flexible-price model of liquidity traps. Money provides a safe store of value that prevents interest rates from falling during downturns and depresses investment. This is an equilibrium outcome--prices are flexible, markets clear, and inflation is on target--but it's not efficient. Investment is too high during booms and too low during liquidity traps. The optimal allocation can be implemented with a tax or subsidy on capital and the Friedman rule.

Date: 2017-08
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Persistent link: https://EconPapers.repec.org/RePEc:ecl:stabus:repec:ecl:stabus:3611

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