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Debt, Deleveraging and the Liquidity Trap

  • Paul Krugman

    (Princeton)

  • Gauti B. Eggertsson

    (NY Fed)

In this paper we present a simple New Keynesian-style model of debt-driven slumps -- that is, situations in which an overhang of debt on the part of some agents, who are forced into rapid deleveraging, is depressing aggregate demand. Making some agents debt-constrained is a surprisingly powerful assumption: Fisherian debt deflation, the possibility of a liquidity trap, the paradox of thrift, a Keynesiantype multiplier, and a rationale for expansionary fiscal policy all emerge naturally from the model. We argue that this approach sheds considerable light both on current economic difficulties and on historical episodes, including Japan's lost decade (now in its 18th year) and the Great Depression itself.

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File URL: https://economicdynamics.org/meetpapers/2011/paper_1166.pdf
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Paper provided by Society for Economic Dynamics in its series 2011 Meeting Papers with number 1166.

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Date of creation: 2011
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Handle: RePEc:red:sed011:1166
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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

Web page: http://www.EconomicDynamics.org/
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