Liquidity of assets Flashcards
What is liquidity in the context of assets?
Liquidity refers to how easily and quickly an asset can be turned into cash without causing a big change in its market value. The more liquid the asset, the faster and easier it is to get cash for it.
Why does the liquidity of an asset matter?
Liquidity is important for several reasons:
Emergency needs: Liquid assets allow you to access cash quickly in case of unexpected expenses.
Investment opportunities: You can sell liquid assets fast to take advantage of potential investments.
Paying off debt: Liquid assets make it easier to meet financial obligations on time.
List examples of highly liquid assets and less liquid assets. Why does this difference exist?
Highly liquid assets:
Cash
Demand deposits (accounts where you can withdraw money whenever you want)
Government securities (G-Sec) / Treasury bills (T-bills)
Shares/bonds of well-known companies
These are liquid because there’s always a market of willing buyers and sellers for them, making the sale quick.
Less liquid assets
Real estate (houses, land)
Artworks (paintings, sculptures)
These take time to sell because finding the right buyer at the price you want can be difficult.
What does the term “liquidity injection” mean in the context of finance?
“Liquidity injection” (or infusion) is when a central bank (like the Reserve Bank of India, or RBI) buys government securities, treasury bills, or other financial assets from banks or Non-Banking Financial Companies (NBFCs). The goal is to give these institutions cash, increasing the amount of money available in the financial system.
Imagine you have a sudden medical expense. Would you rather have your money invested in a house or in blue-chip company stocks? Explain.
For a sudden medical expense, it’s better to have money in blue-chip company stocks. These are considered highly liquid, so you can sell them quickly to get the cash needed. Real estate, on the other hand, is less liquid. It takes time and effort to find a buyer and get a fair price.
A company is facing a short-term cash crunch to pay suppliers. The RBI has announced a liquidity injection program. How might this help the company?
The RBI’s liquidity injection could help the company in a few ways:
Direct participation: If the company owns government securities or other eligible assets, it could sell them to the RBI for cash.
Indirect benefit: Even if the company doesn’t directly sell assets to the RBI, the increased money in the system could make it easier for them to get loans from banks who now have more cash on hand.
