Why do advanced economies fall into prolonged periods of economic stagnation, particularly in the aftermath of credit booms? We present a model of persistent aggregate demand shortage based on strong liquidity preferences of households, in which we incorporate financial imperfections to study the interactions between debt, liquidity and asset prices. We show that financially more deregulated economies are more likely to experience persistent stagnation. In the short run, credit booms can mask this structural aggregate demand deficiency. However, the resulting debt overhang permanently depresses spending in the long run since deleveraging becomes self-defeating because of debt deflation. These findings are in line with the macroeconomic developments in Japan during its lost decades and other advanced economies before and during the Great Recession. JEL-Codes: E410.

We consider a neoclassical economy where households derive utility from holding wealth. We show that, under some conditions, there can be rational bubbles.Hence, we provide a microfoundation for bubbles that relies on a frictionless in…nitehorizon economy without any heterogeneity across households. While our bubbly equilibria are very similar to those obtained by Tirole (1985) in an overlapping generation economy, the underlying economics is di¤erent. Turning to public debt, we show that Ponzi schemes can be sustainable. Hence, in general, the limit on the accumulation of public debt by the government is not given by its no-Ponzi condition but, instead, by the representative household's transversality condition. The Ricardian equivalence must hold in any of our equilibria. Finally, in the presence of money, the real equilibrium structure of the economy remains unchanged. We carefully investigate the e¤ects of helicopter drops of money on the possibility of Ponzi schemes and of speculative hyperin ‡ation or de ‡ation.