Liquidity Stress
Liquidity stress refers to a situation where a financial institution faces difficulty meeting short-term funding obligations.
Meaning in Practice
Liquidity stress occurs when deposit withdrawals, funding disruptions, or market shocks reduce available cash resources. Institutions may need to sell assets quickly or access emergency funding. Regulators require liquidity buffers to mitigate such risks.
Why It Matters
Severe liquidity stress can escalate into solvency concerns and systemic instability. Confidence effects may spread rapidly across the financial system. Strong liquidity management is essential for financial resilience.
Market Impact
Signs of liquidity pressure often lead to falling bank equity prices and widening funding spreads. Central banks may intervene to provide emergency liquidity. Broader markets may experience heightened volatility.
Example
A sudden surge in deposit withdrawals forces a bank to sell government bonds at a loss to meet short-term obligations.