For a good definition of the Liquidity Trap go here or here. A simplified definition is “a state of the Financial Market and the Economy by which long term rates are so low that no-one is willing to invest as the return is outweighed by the perceived risk. Everyone prefers liquidity rather than investments.”
I have read several papers on this and many of the ‘mainstream’ people say no while many of the voices that say the U.S. is headed towards a liquidity trap seem written by the tin-foil-hat types. What brings me to creating this thread are observations of my own behavior and my view of the effects of the last few Fed rate cuts.
My personal finances are such that I am holding more and more cash and see no real (current) benefit to investing. Until the economic future of the U.S. and associated financial markets become more certain, I elect liquidity as the risk outweighs the potential return. (It would be fair to say I am waiting for bottom and not being a good dollar-cost-averager.)
As the Fed once again lowers the federal funds rate to a multi-decade low I think about the recent rate cuts and what little effect (in my armchair view) they have had on the U.S. economy**. Greenspan and company seem to be doing a decent job of trying to manage some sort of ‘soft landing’ (yes, it could be much worse) but I am wondering what other dopers think about the unintended consequences of extensive rate cutting and the long term. Are we nearing a Liquidity Trap where no Fed action will have an impact on economic growth? What are you doing with your Doper Dollars (investing or hoarding)?
** I am aware of the lag in rate drops and the actual effect on the economy, the ‘whipsaw’ effect etc…
I’m thinking more along the lines of monetary policy impotence whereby no matter how low interest rates get, investing looks like a bad idea. Short term interest rates now pretty much round off to zero when compared to historical rates, so what is another quarter point going to do?
IMHO The Fed has done what it can but there isn’t much left it can do. We may be in this funk for the long term.
FWIW I don’t think tax cuts are the answer, either. IMHO many too many in the US are up to their eyebrows in debt and may use tax cut money to pay down debt rather than consume.
I’m not sure we are in a funk.
As long as Corporate America robs from the corporate till, and rapes the employee and individual investors of their pension funds, I don’t think many people are willing to invest at all.
Now with a Republican trifecta, I don’t expect to see and serious SEC investigations into Enron, Worldcom or similar economic rapings.
Yeah, and the Clinton administration was just great at rooting them out. The crimes involved largely happened in the late 90’s to 2001 timeframe, and are being exposed now.
Most Republicans I know want accurate corporate financial data so we know where to invest our bags o’ cash. 
Ok, your Fed cut interest rates in the last couple of day, right? If so, you’re not in a liquidity trap. In a liquidity trap the central bank tries to cut interest rates and it doesn’t work. In any case central banks don’t think they control the money supply any more: they think they control certain influential interest rates. Views of the transmission mechanism have changed since the failed monetarist experiments.
One might well argue that monetary policy is not terribly effective as a stimulus, both generally and particularly in this instance when governance reform and fiscal measures are more likely to be effective - but it’s still nothing like a liquidity trap. I mean, who’s hoarding cash or currency?