We are independent & ad-supported. We may earn a commission for purchases made through our links.
Advertiser Disclosure
Our website is an independent, advertising-supported platform. We provide our content free of charge to our readers, and to keep it that way, we rely on revenue generated through advertisements and affiliate partnerships. This means that when you click on certain links on our site and make a purchase, we may earn a commission. Learn more.
How We Make Money
We sustain our operations through affiliate commissions and advertising. If you click on an affiliate link and make a purchase, we may receive a commission from the merchant at no additional cost to you. We also display advertisements on our website, which help generate revenue to support our work and keep our content free for readers. Our editorial team operates independently of our advertising and affiliate partnerships to ensure that our content remains unbiased and focused on providing you with the best information and recommendations based on thorough research and honest evaluations. To remain transparent, we’ve provided a list of our current affiliate partners here.

What Is a Liquidity Gap?

By Steven Symes
Updated May 16, 2024
Our promise to you
SmartCapitalMind is dedicated to creating trustworthy, high-quality content that always prioritizes transparency, integrity, and inclusivity above all else. Our ensure that our content creation and review process includes rigorous fact-checking, evidence-based, and continual updates to ensure accuracy and reliability.

Our Promise to you

Founded in 2002, our company has been a trusted resource for readers seeking informative and engaging content. Our dedication to quality remains unwavering—and will never change. We follow a strict editorial policy, ensuring that our content is authored by highly qualified professionals and edited by subject matter experts. This guarantees that everything we publish is objective, accurate, and trustworthy.

Over the years, we've refined our approach to cover a wide range of topics, providing readers with reliable and practical advice to enhance their knowledge and skills. That's why millions of readers turn to us each year. Join us in celebrating the joy of learning, guided by standards you can trust.

Editorial Standards

At SmartCapitalMind, we are committed to creating content that you can trust. Our editorial process is designed to ensure that every piece of content we publish is accurate, reliable, and informative.

Our team of experienced writers and editors follows a strict set of guidelines to ensure the highest quality content. We conduct thorough research, fact-check all information, and rely on credible sources to back up our claims. Our content is reviewed by subject-matter experts to ensure accuracy and clarity.

We believe in transparency and maintain editorial independence from our advertisers. Our team does not receive direct compensation from advertisers, allowing us to create unbiased content that prioritizes your interests.

A liquidity gap is a measure of the difference between a person or organization’s total liquid assets versus the total number of liabilities assumed by that person or organization. Also called liquidity mismatch risk or liquidity mismatch, it is one way of measuring a person's or organization’s level of financial risk. A bank or group of investors might measure a person's or organization’s liquidity gap either at a single point in time or at two or more times and compare the change in the liquidity gap. An organization might even choose to measure its own liquidity to assess its financial health.

Whether the gap being measured is for a person's or an organization’s finances, the basic method of calculating the gap is the same. The equation consists of the amount of the person's or organization’s liquid assets, such as bank accounts or an investment portfolio, minus any liabilities incurred by the person or organization. A negative gap means that the person or organization is netting less income than the amount of liabilities assumed. When the gap is positive, the person or organization has liquid assets left over after all of the liabilities have been fulfilled.

Banks or other lending institutions use liquidity gaps to assign interest rates to loans made to both individuals and organizations. How high the interest rate for a loan is depends on how much risk the lender believes is involved in the loan transaction. If the person or organization applying for a loan has a negative gap, and the lender thinks that the gap will not improve significantly in the near future, the lender might choose either to not loan any money or to offer the loan at a significantly higher interest rate.

A person's or organization’s liquidity gap normally fluctuates over time at different rates because various factors might affect the amount of the gap. When the costs of living or conducting business increase, and the person's or organization’s income does not increase at the same rate, the gap becomes more negative. When the organization or person assumes a new liability, such as taking out a new loan, the gap becomes more negative.

Measuring a liquidity gap value at two or more points in time helps a potential lender or investor make investment decisions. Based on the information from the gap values, the potential lender or investor can determine which direction the borrower's finances are heading. The difference in the gap values between two or more points in time is called the marginal gap.

SmartCapitalMind is dedicated to providing accurate and trustworthy information. We carefully select reputable sources and employ a rigorous fact-checking process to maintain the highest standards. To learn more about our commitment to accuracy, read our editorial process.
Link to Sources
Discussion Comments
By fify — On Jan 30, 2014

I think that economics involves a lot of guess work. This also applies to liquidity gap. A firm has to constantly analyze interest rates and their future earnings to see if the liquidity gap will be positive or negative. Their prediction might be accurate or not.

By ddljohn — On Jan 30, 2014

@SarahGen-- I'm not an economist but I think that financial risk is the risk that a company will not be able to cover its expenses. It's not even about profits, it's about staying afloat.

If a business' expenses increase so much that they cannot afford them, the business will be at risk of bankruptcy. It needs to be able to pay its expenses at all times. This means that it must have enough liquid assets. Liquid assets are basically assets that can be sold quickly and at high prices. It could be cash, gold or government bonds. If a business does not have enough liquid assets to cover potential future expenses, that business has a negative liquidity gap. So there is a risk that this business will not make it if expenses were to increase.

They can take loans to manage this type of situation, but like the article said, banks are not too keen on lending to business with large liquidity gaps. Because the bank feels that they may never get their money back, which will be the case if the business files for bankruptcy.

By SarahGen — On Jan 29, 2014

I'm not sure if I understand liquidity gap. What does financial risk mean? Is liquidity gap measuring profitability?

SmartCapitalMind, in your inbox

Our latest articles, guides, and more, delivered daily.

SmartCapitalMind, in your inbox

Our latest articles, guides, and more, delivered daily.