Abstract
This article distinguishes between market liquidity and instrument liquidity. Important macro-factors (market liquidity) determine liquidity conditions in micro-markets (instrument liquidity). Capitalism is essentially a financing system, or more correctly a refinancing system. The refinancing process is largely controlled at the macro level by central banks via their influence on the wholesale money markets. Financial liquidity tends to move in a four-to-five-year global cycle. Periods of tight liquidity trigger financial crises like that of 2007-2008. The modern-day banking crisis no longer involves queues of retail depositors scrambling to remove their savings whenever their bank lacks reserves. Rather it is caused by asset-liability “mismatch” and an inability to refinance short-term liabilities in the wholesale markets.
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