Market Liquidity Is Great, Until It Isn't

In his confirmation hearing the other day, Treasury secretary nominee Steven Mnuchin used the word “liquidity” when talking about several financial regulatory policies. He echoed banks’ concern that the Volcker Rule -- which prohibits banks from engaging in many kinds of trading -- would reduce asset market liquidity. He also expressed support for the continued existence of Fannie Mae and Freddie Mac, the government-run companies that support the mortgage market, saying those entities create liquidity.

But what is “liquidity”? It’s one of the most important words in finance, but it’s meaning is very...fluid. Without grasping the subtlety of this concept, it’s hard to understand financial regulation. But even finance professors and investors don’t quite understand what it means.