which of the following is false about a liquidity trap situation? a- quanitive easing may be...
which of the following is false about a liquidity trap situation?
a- quanitive easing may be able to affect long term interest rates even when the fed is unable to apprecialbe lower short term interest rates
b- the fed cannot easily reduce the fed funds interest rate.
c- quanitive easing might be a more effetive strategy to stimulate the economy than buying short term government securities.
d- the fed can lower both short term and long term interest rates by sung quantiative easing.
Homework Answers
The liquidity trap situation refers to a case wherein the interest rates are very low almost equal to zero. The lenders do not want to lend the money and the borrower do not want to borrow. This situation makes the monetary policy ineffective. The Fed cannot use expansionary monetary policy to affect the short and long term interest rates.
As an alternative, the Fed uses Quantitative Easing. Through this, Central Bank increases the money supply and then buy the government bonds and securities to stimulate the economy. This option has the power to influence both short and long run interest rates.
Quantitative Easing sends an indirect signal in the market that the Fed has no intention to raise the interest rates in the future. This signal tends to reduce interest rates more significantly.
This policy of increasing the money supply is considered as expansionary in the long term So, in the long term, it has the potential to increase the interest rates.
Hence, option d is the correct option as Fed can lower both short and long term interest rates through QE
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