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The macroeconomics of financial crises : How risk premiums, liquidity traps and perfect traps affect policy options

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abstract The paper offers an overview of what structural models of the IS-LM and Mundell-Fleming variety can tell about the macroeconomics of economic crises. In addition to demonstrating how the emergence of risk premiums in money and capital markets can generate liquidity traps at positive interest rates and may drive economies into recessions, it shows the following: (1) Fiscal policy works even in a small, open economy under flexible exchange rates when the country is stuck in a liquidity trap; (2) Near the fringe of liquidity traps, there may be perfect traps, in which neither monetary nor fiscal policy works when used in isolation but policy coordination is called for; and (3) Massive financial crises in the domestic money market may even destabilize the economy.
   
type journal paper
   
keywords financial crisis, credit crunch, liquidity trap, zero lower bound, risk premiums, policy options, fiscal policy, monetary policy, open economy
   
project Understanding and teaching macroeconomic crises
language English
kind of paper journal article
date of appearance 2-2011
journal International Advances in Economic Research
publisher Springer Verlag (Heidelberg)
ISSN 1083-0898
ISSN (online) 1573-966X
DOI 10.1007/s11294-010-9290-z
volume of journal 17
number of issue 1
page(s) 12-27
review double-blind review
   
citation Gärtner, M., & Jung, F. (2011). The macroeconomics of financial crises: How risk premiums, liquidity traps and perfect traps affect policy options. International Advances in Economic Research, 17(1), 12-27, DOI:10.1007/s11294-010-9290-z.