From two of my favorite macroeconomists, Gauti Eggertsson and Neil Mehrotra:
In this paper we propose a simple overlapping generations New Keynesian model in which a permanent (or very persistent) slump is possible without any self-correcting force to full employment. The trigger for the slump is a deleveraging shock which can create an oversupply of savings. Other forces that work in the same direction and can both create or exacerbate the problem are a drop in population growth and an increase in income inequality. High savings, in turn, may require a permanently negative real interest rate. In contrast to earlier work on deleveraging, our model does not feature a strong self-correcting force back to full employment in the long-run, absent policy actions. Successful policy actions include, among others, a permanent increase in inflation and a permanent increase in government spending. We also establish conditions under which an income redistribution can increase demand. Policies such as committing to keep nominal interest rates low or temporary government spending, however, are less powerful than in models with temporary slumps. Our model sheds light on the long persistence of the Japanese crisis, the Great Depression, and the slow recovery out of the Great Recession.
HT: Paul Krugman