What Is Liquidity?
So what is liquidity in cryptocurrency? The term liquidity crypto means how conveniently and rapidly the conversion of cryptocurrency into fiat currency is done, along with keeping in view if this can be carried out without letting the asset’s value suffer. Bitcoin (BTC), the world’s primary and prominently traded crypto asset, is usually referred to as being the digital currency with the most liquidity.
Another use of liquidity is evaluating which exchanges facilitate trades between crypto and fiat instantly without any price slippage. Liquidity scales typically depend on the number of consumers in a specific venue. In a comprehensively challenging market, the capability of charging a premium or a discounted price is eliminated due to crypto liquidity. This happens as crypto or any other asset’s active trading assists in circumventing the price distortions.
Difference between Liquid and Illiquid Market
A liquid cryptocurrency usually trades near the market price thereof. The forex market is known as the top liquid market across the globe. Generally, up to $6.6T in regular per-day transfers had been recorded in this market in 2019’s April, as per the Bank for International Settlements. In comparison, the market of real estate is counted as illiquid. This is because it is hard to trade them quickly in the broader market. At the same time, these transactions are often done in large chains and with considerable paperwork, without even factoring in other variables. The stock market has increased liquidity. If a high trade volume is not led by trade, a very little difference would be between the per-share price set by a buyer (the bid price) and that accepted by a seller (the asking price).
The traders usually prefer liquid markets because getting in and quitting the positions in an illiquid market is substantially troublesome. In terms of Bitcoin, the trading volumes are conveniently in 10s of billions per day, with continuous progress witnessed since 2014. Nonetheless, this does not mean that the primary cryptocurrency did not go through the illiquid periods. In 2018, a crash took place in BTC prices when volumes plunged to nearly $5 billion per day.
The Importance of Liquidity
In the case of liquidity in the markets, it becomes hard to trade or transform securities or assets into cash. For example, a person may possess an exceptional and precious family heritage valued at nearly $150,000. Nevertheless, if no market (i.e., purchasers) exists for that thing, then the price does not matter since no one will recompense funds for that precious object, indicating it is considerably illiquid. In this case, there may be a need to book an auction house to provide the services of a broker along with keeping an eye on the interesting bodies, which requires time and money.
Whereas the liquid assets are concerned so far, they can be conveniently and rapidly traded in return for handsome value and little charges. Firms must hold substantial liquid assets to meet their intermediate obligations such as payroll, bills, and more. If not, there will likely face illiquidity challenges, paving the way for bankruptcy.