With the “great moderation” of high growth and low inflation, consideration of liquidity almost fell off from the lexicon of central banks. Arguably, with central banks targeting interest rates, liquidity becomes endogenous. Of course, liquidity is the flip side of the same coin. If one were to target a very low interest rate, one would have to let go of liquidity.
While monetary policy is conducted by countries keeping in view their domestic objectives, liquidity cannot be confined to sovereign boundaries. The bigger and more systemic a country is, the greater is the spillover, particularly if it is a reserve currency country. The events leading up to the “great recession” made us cognisant of the role played by excessive global liquidity in the financial crisis.