We’ve heard the word "Liquidity" bantered about incessantly over the past few years. The Economist looks into exactly what this means (A fluid concept).
Just about everyone agrees that there’s a lot of liquidity about—whatever it is
is everywhere. Depending on what you read, you may learn that the
world’s financial markets are awash with it, that there is a glut of it
or even that there is a wall of it. But what exactly is it? Again
depending on what you read, you may be told that “it is one of the most
mentioned, but least understood, concepts in the financial market
debate today” or that “there is rarely much clarity about what ‘buoyant
liquidity’ actually means…”
Globally, money looks plentiful. In the euro area and Britain, broad money growth is running well ahead of nominal GDP.
Or take the global supply of dollars, fuelled by America’s large
current-account deficit, the accumulation of reserves by foreign
governments and their recycling back to the United States. A common
measure of this, says Mr Barnes, is the American monetary base plus
United States securities held by the Fed for foreign countries. Its
annual growth rate peaked in 2004, at more than 20%. But because those
securities have continued to pile up, this measure of liquidity is
still growing at a rate of around 10% (see right-hand chart, above).
Another gauge, combining all foreign-exchange reserves with America’s
monetary base, has risen at an average rate of perhaps 18% in the past
four years. And this omits the contribution to global liquidity of the
Bank of Japan, whose low interest rates are fuelling the “carry trade”.
All this is
reflected in financial markets for everything from developing-country
debt to corporate junk, commodities and art. Global willingness to save
and lend is running ahead of investment. Ben Bernanke, chairman of the
Fed, has spoken of a savings glut. Then again, the real puzzle could be
companies’ “investment restraint”, according to Raghuram Rajan, of the
University of Chicago’s business school (and until recently chief
economist at the IMF). Maybe, he suggests,
investment is becoming more centred on people and less on physical
capital; maybe physical investment is being switched to emerging
economies; maybe uncertainty still holds back investment abroad—as it
does not, say, investment in property at home. Whatever the cause, a
shortage of investment in fixed assets implies a shortage of debt
collateralised on them. The financing glut has thus spilled over into
markets for existing assets."
Th entire column is worth a read . . .
A fluid concept
The Economist, Feb 8th 2007
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