Tokyo's cutting interest rates was once the response to borrowing costs being too high or credit too tight. Despite no indications that the financial system is deprived of liquidity, the Bank of Japan and the U.S. Federal Reserve Board continue to hold or push down interest rates.
Unfortunately, both the BOJ and the Fed are acting upon a mistaken belief that money must be pumped into the system before a "liquidity trap" develops.
The notion of a liquidity trap has a long and dubious history. It was contrived by economist John Maynard Keynes to describe a situation in which low interest rates induce bondholders to express a "liquidity preference" to the extent that it interferes with monetary pumping aimed at stimulating the economy.
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