In yesterday’s blog – A nation cannot grow without spending – I challenged a view that dominates the European debate which says that fiscal austerity (choking discretionary net public spending) supplemented with vigorous so-called “structural reforms” (aka ransacking wages and working conditions) will promote growth. The corollary of this view is that fiscal austerity alone will fail and the reason Europe is going backwards is not because of the austerity but rather, because the structural reforms process has not been implemented quickly or deeply enough. In all of this there is a basic denial of the fundamental macroeconomic insight – spending equals output which equals income. An economy can only growth if there is spending (aggregate demand) growth. That requires a demand-side solution irrespective of the state of the supply side. Supply improvements might reduce the danger of inflation or improve the quality of output but people still have to purchase the output for growth and innovation to persist. A related argument is that fiscal stimulus aimed at fostering growth will cause inflation and be self-defeating. This view prevails in mainstream macroeconomics as taught in the universities of the world. Some mainstream economists do qualify this view and give conditional support to the fiscal stimulus solution by appealing to what they term the “liquidity trap”. This blog is about that argument.