Liquidity Crisis

AAA

DEFINITION of 'Liquidity Crisis'

A negative financial situation characterized by a lack of cash flow. For a single business, a liquidity crisis occurs when the otherwise solvent business does not have the liquid assets (i.e., cash) necessary to meet its short-term obligations, such as repaying its loans, paying its bills and paying its employees. If the liquidity crisis is not solved, the company must declare bankruptcy. An insolvent business can also have a liquidity crisis, but in this case, restoring cash flow will not prevent the business's ultimate bankruptcy.

INVESTOPEDIA EXPLAINS 'Liquidity Crisis'

For the economy as a whole, a liquidity crisis means that the two main sources of liquidity in the economy, banks and the commercial paper market, severely reduce the number of loans they make or stop making loans altogether. Because so many companies rely on these loans to meet their short-term obligations, this lack of lending has a ripple effect throughout the economy, causing liquidity crises at a plethora of individual companies, which in turn affects individuals.

RELATED TERMS
  1. Loan-To-Deposit Ratio - LTD

    A commonly used statistic for assessing a bank's liquidity by ...
  2. Dollar Shortage

    A dollar shortage occurs when a country lacks a sufficient supply ...
  3. Bankruptcy Risk

    The possibility that a company will be unable to meet its debt ...
  4. Bankruptcy

    A legal proceeding involving a person or business that is unable ...
  5. Commercial Paper

    An unsecured, short-term debt instrument issued by a corporation, ...
  6. Cash Flow

    1. A revenue or expense stream that changes a cash account over ...
RELATED FAQS
  1. What are the major laws (acts) regulating financial institutions that were created ...

    Presidents George W. Bush and Barack Obama, in conjunction with Congress, signed into law several major legislative responses ... Read Full Answer >>
  2. What are the similarities and differences between the savings and loan (S&L) crisis ...

    The savings and loan crisis and the subprime mortgage crisis both began with banks creating new profit centers following ... Read Full Answer >>
  3. What measures could the U.S. Government take to prevent another crisis similar to ...

    Some of the measures that the U.S. government can take to prevent another crisis similar to the savings and loan (S&L) ... Read Full Answer >>
  4. How was the American Dream impacted by the housing market collapse in 2008?

    The American Dream was seriously damaged by the housing market collapse in 2008. In many ways, the American Dream is a self-fulfilling ... Read Full Answer >>
  5. What major events and policy decisions led to the savings and loan crisis (S&L crisis)?

    The major events and policy decisions that led to the Savings and Loan Crisis were a period of volatility for interest rates ... Read Full Answer >>
  6. Why have austerity policies failed to stabilize Greece's economy?

    Austerity policies are intended to reduce government debt and bring stability to that nation's economy. Austerity's effectiveness ... Read Full Answer >>
Related Articles
  1. Investing Basics

    The Working Capital Position

    Learn how to correctly analyze a company's liquidity and beat the average investor.
  2. Options & Futures

    Understanding Financial Liquidity

    Understanding how this measure works in the market can help keep your finances afloat.
  3. Economics

    Is The Stock Market Rigged?

    Many would-be, first-time investors in the stock market do not believe it is a fair playing field.
  4. Markets

    Free Cash Flow: Free, But Not Always Easy

    Free cash flow is a great gauge of corporate health, but it's not immune to accounting trickery.
  5. Personal Finance

    The Lost Decade: Lessons From Japan's Real Estate Crisis

    Find out what America can learn from Japan's liquidity trap and credit crunch.
  6. Savings

    What’s Behind The Sluggish Economic Recovery

    While the economy is improving, the rate of improvement is much lower than economists had expected. Estimates for Q2 GDP have collapsed to 2.5% from 3.2%.
  7. Investing

    What is Basel III?

    The purpose of the Basel accords is to improve the worldwide bank regulatory framework.
  8. Investing

    Market Crisis: Does Diversification Still Work?

    If you still aren’t sold on the benefits of international diversification, you may object that: Diversification didn’t work during the last market crisis.
  9. Investing Basics

    The Dodd-Frank Wall Street Reform Act

    The Dodd-Frank Wall Street Reform and Consumer Protection Act, commonly called Dodd-Frank, was passed in 2010. The goal of the act is to prevent another great recession like that of 2008, which ...
  10. Investing

    3 Major Risks For Annaly’s Investors

    Thanks to its double-digit dividend yield, Annaly Capital Management has long been a favorite among income-seeking investors.

You May Also Like

Hot Definitions
  1. Multicurrency Note Facility

    A credit facility that finances short- to medium-term Euro notes. Multicurrency note facilities are denominated in many currencies. ...
  2. National Currency

    The currency or legal tender issued by a nation's central bank or monetary authority. The national currency of a nation is ...
  3. Treasury Yield

    The return on investment, expressed as a percentage, on the debt obligations of the U.S. government. Treasuries are considered ...
  4. Bund

    A bond issued by Germany's federal government, or the German word for "bond." Bunds are the German equivalent of U.S. Treasury ...
  5. European Central Bank - ECB

    The central bank responsible for the monetary system of the European Union (EU) and the euro currency. The bank was formed ...
  6. Quantitative Easing

    An unconventional monetary policy in which a central bank purchases private sector financial assets in order to lower interest ...
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!