CA Foundation · Business Economics · Business Cycles
In a recession, the central bank cuts the policy rate several times, yet firms and households hardly borrow more because they are pessimistic about future demand. Which concept best describes the weak effectiveness of monetary policy here?
The situation is a liquidity trap, often called pushing on a string. Even after repeated rate cuts, pessimistic firms and households do not borrow or invest more, so monetary easing fails to revive demand. This is why fiscal measures are often needed in deep recessions.
- ACrowding out effect
- BLiquidity trap or 'pushing on a string' problemCorrect
- CAutomatic stabiliser effect
- DMultiplier-accelerator interaction
Explanation
When low interest rates fail to raise borrowing and investment because of pessimistic expectations, monetary policy is said to be ineffective, a situation known as a liquidity trap (pushing on a string). Crowding out refers to government borrowing reducing private investment, which is not the situation described here.
Did you get it right without looking?
One question tells you little. A timed set on Business Cycles shows your real accuracy, how long you take and where you lose marks.
More Business Cycles questions
- Which of the following best describes how economists measure the turning points of business cycles using a composite approach?
- Which feature distinguishes business cycles from seasonal variations in economic activity?
- In the Samuelson-Hicks multiplier-accelerator model of business cycles, the cycle is generated mainly because:
- Which of the following is the most likely effect on an economy during a prolonged downturn in the business cycle?
- Which phase of the business cycle is characterised by the lowest level of economic activity, high unemployment and idle capacity, just befor…
- According to Schumpeter's innovation theory of business cycles, an economic upswing is mainly triggered by which of the following?