Why the housing market is caught in a liquidity trap

Via CNN Money:

FORTUNE – In textbook economics, lower interest rates typically spur higher investments. Money is cheap. So the assumption is that people, banks and companies will spend more, therefore helping the economy grow.

But that doesn't always work. Sometimes cutting the rate of interest, even to zero, won't necessarily pull an economy out of a recession. British economist John Maynard Keynes called this the liquidity trap -- when virtually everyone becomes so risk averse that banks would rather sit on their cash than offer credit. And even if banks start lending more, people wouldn't want the credit anyway.

It is a grim scenario. And it appears today that no sector in the U.S. economy has suffered more from the liquidity trap than the housing market.

For all the attention policymakers placed on the Fed's actions over interest rates, the cost of borrowing is far from the problem. Record-low mortgage rates have done little, if anything, to encourage home purchases or even refinances. And while home builders way overbuilt in the years leading up to the 2008 housing bust, the fact that mortgage rates have had little influence over home purchases underscores how weaknesses from the demand side (as opposed to the supply side) is perhaps the bigger problem.

The demand side is low because potential buyers don't see a bottom and are fearful of losing money themselves. Moreover, the radically anti-business White House has caused so much uncertainty in the business community that it has trickled down to consumers. People who fear for the future no matter how well they're doing today, generally don't commit themselves to large financial responsibilities like home ownership.