The "New consensus"and the Post-Keynesian approach to the analysis of liquidity traps

Alfonso Palacio Vera
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Alfonso Palacio Vera: Departamento de Economía Aplicada III (Política Económica). Universidad Complutense de Madrid., https://www.ucm.es//departamento-de-economia-aplicada,-publica-y-politica

No 08-03, Documentos de trabajo de la Facultad de Ciencias Económicas y Empresariales from Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales

Abstract: We compare the “New Consensus” (NC) in macroeconomics as expounded in Woodford (2003) and the Post-Keynesian (PK) approach regarding the causes of a “liquidity trap” (LT). We argue that in the NC a LT is a phenomenon caused by unusually large transitory shocks that depress the “neutral” interest rate temporarily. We show that this is the case because it is assumed that the “neutral” or “natural” interest rate converges in the long run to a gravitation center whose (positive) lower bound is determined by the rate of time preference of the representative household. By contrast, in the PK approach, the economy may also exhibit a “structural” or long-lasting LT even in the absence of large adverse shocks. This may be the case if a combination of high precautionary saving, low investment spending and stringent conditions for access to bank credit stemming from a high degree of uncertainty and liquidity preference makes the sum of the steady-growth “neutral” interest rate and the inflation rate fall short of the term/risk premium on long-term interest rates.

Keywords: Neutral interest rate; liquidity trap; New Consensus in macroeconomics; Credit rationing and liquidity preference. (search for similar items in EconPapers)
JEL-codes: B50 E12 E24 E50 (search for similar items in EconPapers)
Pages: 38 pages
Date: 2008
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