How is "liquidity" defined in financial terms?

Liquidity in financial terms refers to the ease with which an asset can be converted into cash without significantly affecting its price. This concept is crucial for businesses and individuals as it indicates the ability to meet short-term obligations without incurring substantial losses. High liquidity means that an asset can quickly be turned into cash, which is essential for managing cash flow, especially in financial emergencies.

While profitability, interest earnings, and total cash reserves are important financial metrics, they do not specifically define liquidity. Profitability assesses how well a company can generate income, interest earnings relate to the income generated from investments, and total cash reserves indicate the amount of cash on hand but do not address the conversion capabilities of various assets. Therefore, focusing on the ease of conversion to cash encapsulates the essence of liquidity.