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Liquidity trap

Liquidity trap Definition

In economics, a liquidity trap is a situation when the economy is stagnant and the interest rate is equal to, or slightly above, 0 percent. In this kind of situation, people do not expect high returns on their financial or real investments and so they keep their money in their bank accounts or hoards instead of investing it. This makes the recession even more severe. In "normal" times, the Central Bank could stimulate the economy by lowering the interest rate and thus increasing borrowing and fixed investment. But as the interest rate is already 0 percent or close to it, it cannot be decreased any further and the economy is "caught" in this trap.








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