Excess of liquidity From a macroeconomic point of view, it is a situation in which the banking system has more money in circulation than the banks demand and this generates an excess of money supply. From the microeconomics it is a situation in which the company has an excess of treasury that does not produce returns.
Therefore, when the money supply (which in turn originates in the monetary base) is much higher than demand, we are faced with an excess of macroeconomic liquidity. That is, people and companies need less money than exists in the system and therefore, commercial banks demand less liquidity and as the money supply is fixed, this generates a surplus.
This same situation can occur in individual companies (microeconomics). In this case, these have excess treasury that are not producing any yield. The solutions happen, either by investing in a new project, buying an offer of products that may be interesting for being in promotion, or buying fixed or variable income securities, with the aim of obtaining interest or dividends.
Why does excess liquidity occur?
There are three economic agents that demand money in an economy: people, companies and the state at its different levels of administration. Banks capture savings and lend money and make up the so-called money supply. On the other hand, they also need to have amounts of cash required by law, which represent a percentage of the total money they lend in the so-called fractional reserve systems.
All this can lead to situations in which the financial institution needs more cash at specific times. To alleviate this problem, commercial banks borrow money from the central bank. This gives them the money in exchange for an interest called intervention and which is then going to be used as a reference for loans. This is known as expansive monetary policies.
In relation to the company, this situation usually has its origin in an excessive forecast of treasury, based in turn on excessive management prudence. On the other hand, it can also occur when the collection periods are much lower than the payment periods.
Consequences of excess liquidity
Among others, at the macro level, one of the most frequent is the generation of bubbles. In this way, if there is an excess, the Law of supply and demand concludes that the price of that good should go down. In a non-intervened market and from a theoretical point of view, since the interest rate is the price of money, banks will want to lend those excesses by lowering interest rates. However, they cannot do so since there is a minimum price, the legal interest. In the end, they choose to facilitate access to money, with the risk of creating bubbles or excess credits.
In the micro sphere, the consequences are related to the opportunity cost by ceasing to obtain returns for that inactive money. In this way, companies with excess liquidity must solve their situation as soon as possible, since the objective is not only to avoid losses, but also to maximize the benefits to optimize resources.
An example, the financial crisis of 2008 and supermarkets
In macroeconomics, there are different theories about the causes of the financial crisis of 2008. We will not go into details about them, but all agree on one factor was too much liquidity. Thus, some authors believe that this problem caused banks to lend money in an irresponsible way. Others believe that the main reason was the excesses of banking and a sector that is too deregulated, but with this same problem.
In the business microeconomics, a sector that usually has problems of excess liquidity is that of large stores. They charge in cash and pay over long periods of time. Its current assets are mainly made up of stock and the treasury. These companies, in periods of high sales, usually choose to invest that money in surplus temporarily.