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Liquidity trap - Essay Example
Finance & Accounting
Pages 3 (753 words)
Name: Course: Date: How the banking sector may be affected by the “liquidity trap” The banking sector is a deposit taking sector, which heavily relies on the deposits taken from the customers of such financial institutions, to be able to perform some of its other functions such as lending (Svensson, 2)…
This creates is insufficient stimulation within the economy, as a result of hoarding of cash by the operators in the economy, with the anticipation of future economic occurrences that are not favorable to cash transactions, such as deflation, insufficient aggregate demand, or the uncontrollable events(Svensson, 1). The concept of liquidity trap will affect the banking sector in various ways. First, the coming into play of the concept of liquidity trap means that the interest rates will have to drop nearly to zero. Since this occurrence creates a scenario where the short-term interest rates are low, while the savings are very high, the banking sector will be affected by insufficient lending, which then means that the revenue generation capability of the banking sector will be low (Svensson, 2). Considering that when the interest rates are low the prices of the bonds is expected to drop in the near future, many consumers avoid utilizing their money to purchase the bonds, with the fear that such bonds will not bring in good returns, and instead opts to keep their money in savings, with an anticipation that the interest rates is going to increase in the near future (Svensson, 13). ...