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Liquidity Crisis

A liquidity crisis occurs when a financial institution, company, or economy as a whole faces a severe shortage of liquid assets or cash, making it difficult to meet short-term obligations. During a liquidity crisis, banks, businesses, and individuals may be unable to access funds or sell assets without incurring significant losses. This often leads to widespread financial instability, falling asset prices, and credit market freezes. Liquidity crises can be triggered by market shocks, loss of confidence, or sudden withdrawals of capital.

Example

During the 2008 financial crisis, many banks and financial institutions faced a liquidity crisis, unable to access enough liquid assets to meet obligations, leading to a collapse in lending and market confidence.

Key points

• A situation where institutions or economies face a severe shortage of liquid assets or cash.

• Leads to difficulty in meeting short-term obligations, often resulting in financial instability.

• Can be triggered by market shocks, loss of confidence, or sudden withdrawals of capital.

Quick Answers to Curious Questions

A liquidity crisis can be caused by sudden market shocks, loss of confidence in financial institutions, or massive withdrawals of capital from the system.

It leads to falling asset prices, credit market freezes, and widespread financial instability, as institutions struggle to meet obligations.

Businesses may be unable to access the funds needed to operate, forcing them to sell assets at a loss or face insolvency.