LIQUIDITY PREFERENCE Meaning and
Definition
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Liquidity preference, in economics, refers to the individuals' and investors' tendency to hold liquid assets, such as cash or short-term securities, rather than illiquid assets. It is the concept of individuals' desire to keep their wealth in a form that can be readily converted into cash, allowing them to meet their immediate needs and obligations.
Liquidity preference is based on the time value of money, which states that individuals generally place a higher value on immediate access to cash compared to future payments. This preference arises due to various factors. Firstly, holding liquid assets provides a sense of security and a means to handle unforeseen expenses or emergencies. Secondly, it grants individuals the flexibility to seize investment opportunities or make purchases when prices are favorable.
Furthermore, central banks and monetary policymakers consider liquidity preference when formulating their monetary policies. They aim to understand and influence the demand for money and liquidity preference in order to regulate interest rates and stabilize economic conditions. High liquidity preference indicates a preference for holding cash, which can lead to a decrease in spending and investment, potentially resulting in economic recession. Conversely, low liquidity preference suggests a greater willingness to invest, spend, and contribute to economic growth.
Overall, liquidity preference is an important factor in individuals' financial decision-making and investment strategies. It plays a crucial role in shaping economic dynamics and is a subject of interest for economists and policymakers seeking to understand and manage market conditions and economic fluctuations.
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Etymology of LIQUIDITY PREFERENCE
The word "liquidity preference" was coined by British economist John Maynard Keynes in his influential work "The General Theory of Employment, Interest and Money" published in 1936. The term is derived from two key components: "liquidity" and "preference".
"Liquidity" refers to the degree of ease with which an asset can be converted into cash without experiencing significant loss in value. It signifies the level of marketability and the ability to quickly acquire purchasing power. In economics, liquidity is a key aspect that individuals and institutions consider when making financial decisions.
"Preference" indicates the desire or inclination towards a particular option over others. In the context of "liquidity preference", it refers to the preference of individuals to hold wealth in the form of easily marketable and liquid assets rather than illiquid assets like bonds or fixed investments.
