# What are the most effective market variables to measure liquidity/illiquidity in the market?

I'm trying to find/create a variable that measures liquidity in financial markets in order to assess, for instance whether credit conditions tightened? Does anyone know any relevant literature concerning this subject?

## 3 Answers

There are many different options. The Fed has a Senior Loan office survey of whether credit conditions have tightened or loosened. Macroeconomic forecasters often use this as part of U.S. GDP forecasting models. Other market-based variables, such as VIX and the spread between various bonds, to get a sense of financial conditions.

There are also some financial conditions indices out there. The Chicago Fed and Bloomberg both come to mind. Doesn't really make sense to re-invent the wheel, but if you need a longer history you can look at their methodology to get a sense of what they're doing.

• Thanks a lot John! That's exactly the point, I am trying to get data since 1980 thus I'll take a look on those variables you've just mentioned – goncalogc Sep 30 '14 at 8:41

Turnover ratio (TR) is one of the variables used. $TR_t=\frac{Total_. shares_. traded_. at_. time_. t}{Market_. capitalisation}$. This variable indicates the number of shares traded in a day. Liquidity is a tricky area and you will find various measures in various papers according the authors preference. I do not recommend directly using volume or market cap. These variables does not give relative comparison.

Turnover ratio does not quite cut it because high liquidity is not the same as high trading activity. A nicer definition is how sensitive is the price to a given volume that is bid or offered. For that, check out this paper.