Social Europe

politics, economy and employment & labour

  • Themes
    • Strategic autonomy
    • War in Ukraine
    • European digital sphere
    • Recovery and resilience
  • Publications
    • Books
    • Dossiers
    • Occasional Papers
    • Research Essays
    • Brexit Paper Series
  • Podcast
  • Videos
  • Newsletter

Liquidity Helps Financial Market Participants, Not Businesses And Households

John Kay 1st December 2015

John Kay

John Kay

Nothing illustrates more starkly the difference between the preoccupations of financial market participants and the needs of businesses and households than the subject of liquidity.

Last week the Bank of England held an open forum to discuss what the financial sector contributes to the real economy, and I took part in a discussion on the role of liquidity. It began from a practitioner’s definition of liquidity: “The ease with which one asset can be exchanged for another.” Finance professionals bemoaned a decline in liquidity, blaming the global crisis and the subsequent intensification of regulation. In markets such as corporate bonds, they reported almost no liquidity at all.

But while the ease of exchanging one asset for another matters to traders, that is not the measure of liquidity that matters to savers. For them, security of their cash is crucial; they want to be able to take their money out of banks when they need it and they need to be sure that ATMs will continue to function.

Savers also need to be able to realise their assets in retirement and for big purchases. But they do not need a stock exchange in which shares are traded every millisecond. Their needs would be met adequately by a market that opened once a week. Perhaps once a month, or once a year, would do.

So focusing on the needs of savers and business rather than market participants leads to a different perspective on liquidity. Corporate bonds are long-term company obligations, mostly held by insurance companies and pension funds to meet their own long-term obligations. There is not much trade or liquidity in these markets because there is not much need for trade or liquidity in these securities.


Our job is keeping you informed!


Subscribe to our free newsletter and stay up to date with the latest Social Europe content. We will never send you spam and you can unsubscribe anytime.

Sign up here

The practitioners at the open forum worried that the absence of an active market damaged the process of “price discovery”. But “price discovery” seems to mean something different from “value discovery”, which is an estimate of the expected cash flows that holders will derive from the security over its life. “Price discovery” owes more to other traders’ expectations than fundamentals of valuation. To believe more can be learnt about the credit quality of a bond by stimulating trade in it than from careful evaluation of the circumstances of the issuer requires an unjustified faith in the “wisdom of crowds”. A lesson of the subprime mortgage fiasco is that an active market in securitised products is no substitute for careful assessment of the borrower’s capacity to repay.

Regulation of unit trusts and other open-ended investment products, and of insurance and pension funds, today imposes requirements for marketability far in excess of anything required by the underlying needs of savers. And the restrictions these obligations impose on investment choices damage the interests of the retail customers whom the rules were initially intended to help.

Regulators then fear savers might actually use the liquidity they are promised, but do not really need, by massive withdrawals from a single asset manager in which they have lost confidence. This fear is the basis of an argument for yet further regulation, involving the designation of large asset managers as “systemically important financial institutions”. And so the spiral of increasing regulatory complexity winds on.

Liquidity in financial markets is often equated to the volume of trade. But every financial crisis shows that such liquidity is liable to evaporate when actually required. An assurance that the funding requirements of businesses and households can be met is best achieved by a resilient, well-capitalised banking system and an asset-management sector focused on the long-term needs of both providers and users of capital. A market characterised by large trading volumes on low spreads serves the interests of market practitioners rather than their customers.

This column was first published in the Financial Times and on John Kay’s Blog.

John Kay

John Kay is Visiting Professor of Economics at the London School of Economics and a regular columnist for the Financial Times.

You are here: Home / Economy / Liquidity Helps Financial Market Participants, Not Businesses And Households

Most Popular Posts

Visentini,ITUC,Qatar,Fight Impunity,50,000 Visentini, ‘Fight Impunity’, the ITUC and QatarFrank Hoffer
Russian soldiers' mothers,war,Ukraine The Ukraine war and Russian soldiers’ mothersJennifer Mathers and Natasha Danilova
IGU,documents,International Gas Union,lobby,lobbying,sustainable finance taxonomy,green gas,EU,COP ‘Gaslighting’ Europe on fossil fuelsFaye Holder
Schengen,Fortress Europe,Romania,Bulgaria Romania and Bulgaria stuck in EU’s second tierMagdalena Ulceluse
income inequality,inequality,Gini,1 per cent,elephant chart,elephant Global income inequality: time to revise the elephantBranko Milanovic

Most Recent Posts

Pakistan,flooding,floods Flooded Pakistan, symbol of climate injusticeZareen Zahid Qureshi
reality check,EU foreign policy,Russia Russia’s invasion of Ukraine: a reality check for the EUHeidi Mauer, Richard Whitman and Nicholas Wright
permanent EU investment fund,Recovery and Resilience Facility,public investment,RRF Towards a permanent EU investment fundPhilipp Heimberger and Andreas Lichtenberger
sustainability,SDGs,Finland Embedding sustainability in a government programmeJohanna Juselius
social dialogue,social partners Social dialogue must be at the heart of Europe’s futureClaes-Mikael Ståhl

Other Social Europe Publications

front cover scaled Towards a social-democratic century?
Cover e1655225066994 National recovery and resilience plans
Untitled design The transatlantic relationship
Women Corona e1631700896969 500 Women and the coronavirus crisis
sere12 1 RE No. 12: Why No Economic Democracy in Sweden?

Eurofound advertisement

Eurofound webinar: Making telework work for everyone

Since 2020 more European workers and managers have enjoyed greater flexibility and autonomy in work and are reporting their preference for hybrid working. Also driven by technological developments and structural changes in employment, organisations are now integrating telework more permanently into their workplace.

To reflect on these shifts, on 6 December Eurofound researchers Oscar Vargas and John Hurley explored the challenges and opportunities of the surge in telework, as well as the overall growth of telework and teleworkable jobs in the EU and what this means for workers, managers, companies and policymakers.


WATCH THE WEBINAR HERE

Foundation for European Progressive Studies Advertisement

The winter issue of the Progressive Post magazine from FEPS is out!

The sequence of recent catastrophes has thrust new words into our vocabulary—'polycrisis', for example, even 'permacrisis'. These challenges have multiple origins, reinforce each other and cannot be tackled individually. But could they also be opportunities for the EU?

This issue offers compelling analyses on the European health union, multilateralism and international co-operation, the state of the union, political alternatives to the narrative imposed by the right and much more!


DOWNLOAD HERE

Hans Böckler Stiftung Advertisement

The macroeconomic effects of re-applying the EU fiscal rules

Against the background of the European Commission's reform plans for the Stability and Growth Pact (SGP), this policy brief uses the macroeconometric multi-country model NiGEM to simulate the macroeconomic implications of the most relevant reform options from 2024 onwards. Next to a return to the existing and unreformed rules, the most prominent options include an expenditure rule linked to a debt anchor.

Our results for the euro area and its four biggest economies—France, Italy, Germany and Spain—indicate that returning to the rules of the SGP would lead to severe cuts in public spending, particularly if the SGP rules were interpreted as in the past. A more flexible interpretation would only somewhat ease the fiscal-adjustment burden. An expenditure rule along the lines of the European Fiscal Board would, however, not necessarily alleviate that burden in and of itself.

Our simulations show great care must be taken to specify the expenditure rule, such that fiscal consolidation is achieved in a growth-friendly way. Raising the debt ceiling to 90 per cent of gross domestic product and applying less demanding fiscal adjustments, as proposed by the IMK, would go a long way.


DOWNLOAD HERE

ILO advertisement

Global Wage Report 2022-23: The impact of inflation and COVID-19 on wages and purchasing power

The International Labour Organization's Global Wage Report is a key reference on wages and wage inequality for the academic community and policy-makers around the world.

This eighth edition of the report, The Impact of inflation and COVID-19 on wages and purchasing power, examines the evolution of real wages, giving a unique picture of wage trends globally and by region. The report includes evidence on how wages have evolved through the COVID-19 crisis as well as how the current inflationary context is biting into real wage growth in most regions of the world. The report shows that for the first time in the 21st century real wage growth has fallen to negative values while, at the same time, the gap between real productivity growth and real wage growth continues to widen.

The report analysis the evolution of the real total wage bill from 2019 to 2022 to show how its different components—employment, nominal wages and inflation—have changed during the COVID-19 crisis and, more recently, during the cost-of-living crisis. The decomposition of the total wage bill, and its evolution, is shown for all wage employees and distinguishes between women and men. The report also looks at changes in wage inequality and the gender pay gap to reveal how COVID-19 may have contributed to increasing income inequality in different regions of the world. Together, the empirical evidence in the report becomes the backbone of a policy discussion that could play a key role in a human-centred recovery from the different ongoing crises.


DOWNLOAD HERE

ETUI advertisement

The EU recovery strategy: a blueprint for a more Social Europe or a house of cards?

This new ETUI paper explores the European Union recovery strategy, with a focus on its potentially transformative aspects vis-à-vis European integration and its implications for the social dimension of the EU’s socio-economic governance. In particular, it reflects on whether the agreed measures provide sufficient safeguards against the spectre of austerity and whether these constitute steps away from treating social and labour policies as mere ‘variables’ of economic growth.


DOWNLOAD HERE

About Social Europe

Our Mission

Article Submission

Membership

Advertisements

Legal Disclosure

Privacy Policy

Copyright

Social Europe ISSN 2628-7641

Social Europe Archives

Search Social Europe

Themes Archive

Politics Archive

Economy Archive

Society Archive

Ecology Archive

Follow us

RSS Feed

Follow us on Facebook

Follow us on Twitter

Follow us on LinkedIn

Follow us on YouTube