Nov. 24 (Bloomberg) -- Ask a trader about liquidity, and without missing a beat he'll tell you it refers to the ease with which an asset can be bought or sold.

Eurodollar futures contracts, Treasury securities and the Standard & Poor's 500 Index are liquid. They can be bought and sold quickly, without incurring much of a cost in terms of a spread between the bid and the offered side of the market, and without influencing the price to any great extent.

A liquid asset can be converted into cash quickly. A Treasury bill is liquid; a house is not.

Liquidity has another meaning, and that's the one we're concerned with here. It has to do with the provision of money by the central bank.

Don't expect to get such a succinct definition from traders and investors -- or even economists. Ask them what liquidity used in this sense means and you'll get mumbo-jumbo in response.

I hear all the time that ``there's a lot of liquidity sloshing around the globe.'' I've heard liquidity described, alternatively, as the pool of global savings, recycled petrodollars, the level of borrowing, the cost of borrowing, the ease of borrowing, and the level of interest rates.

What's even more disconcerting is that economists can't seem to agree whether there's too much or too little liquidity. To look at the source of liquidity -- the Federal Reserve's creation of high-powered money -- one would conclude that there isn't an excess. The growth in the monetary base, which consists of bank reserves and currency, slowed to 3 percent in the last year from over 10 percent five years ago.

Cause and Effect

To look at liquidity's effect -- rising commodity prices and equity markets and narrow credit spreads -- one would be tempted to conclude liquidity is ample. So which is it?

Former Fed governor Roger Ferguson dealt with this thorny subject in his remarks at the Seventh Deutsche Bundesbank Spring Conference in Berlin on May 27, 2005.

``Liquidity is not a precise concept,'' Ferguson said. ``Liquidity could be measured narrowly as central bank money, for example, or more broadly to reflect the multiplier effects of the financial system; sometimes it is measured instead by the level of policy interest rates.''

Regardless of the definition, support for the conclusion that excess liquidity is ``a source of general asset price instability'' is ``mixed at best,'' Ferguson said, citing empirical research on the subject.

Supply-siders -- economists who see marginal and capital gains tax rate cuts as the sine qua non of economic growth --have been pushing the case for excess liquidity.

Premature Bath

``Strong liquidity and low tax rates should power a global rebound in 2007,'' writes Mike Darda, chief economist at MKM Partners in Greenwich, Connecticut, in his November Macro Focus. ``The bear camp, flying high on the aphrodisiac of new home starts for October, may need to take a cold shower as strong liquidity, low tax rates and a stabilization in the residential sector early next year pave the way for faster growth.''

With all due respect to Darda, the water temperature and designated bathers are up for grabs.

``In my experience, credit spreads are a lagging indicator and, at best, a coincident indicator,'' says Paul Kasriel, director of economic research at the Northern Trust Co. in Chicago. ``In 2000, the stock market took a tumble just before the economy. The lead time is not that great.''

Kasriel doesn't know what folks mean when they say ``money is available'' or ``it's easy to borrow.'' Consumers are borrowing less, he says, and ``corporations are borrowing more to buy back their stock. Corporations are the largest buyers of equities. If they were bullish, they would be expanding operations.''

Growth Story

What about industrial commodity prices? The indexes that exclude oil are near an all-time high.

``If the world is going through a transformation, and industry is shifting production to China and India, the world needs physical commodities,'' says Jim Glassman, senior U.S. economist at JPMorgan Chase & Co.

The commodity price boom is a ``real story about economic development, a temporary increase in the demand for physical things,'' he says. ``They are confusing a real development story with a liquidity/inflation story.''

Glassman agrees that liquidity ``is a question about central banks. They're the ones that provide high-powered money.''

When the central bank targets a price (an interest rate) and not a quantity of money, ``you can't tell whether there is too much liquidity or not,'' he says.

So how do we ever know if there is too much liquidity in the system?

Curve Mechanics

``The yield curve is the best indicator we have,'' Glassman says.

In its current inverted state, the yield curve suggests market forces are pushing long-term equilibrium rates down while the Fed is artificially propping short rates up.

The only way that state of affairs could signal excess liquidity is if you believe -- yes, I've heard this one, too -- that low long-term rates are another symptom.

``If low long-term rates equal liquidity, then there must have been a supply of liquidity approaching infinity in the 1930s here in the U.S. and in the 1990s in Japan,'' Kasriel says.

While we're on the subject of liquidity, the late British economist John Maynard Keynes brought us the notion of a ``liquidity trap,'' which occurs when the central bank lowers rates, yet no one wants to borrow. Both the savings and loan crises in the U.S. in the late 1980s, early 1990s, and Japan's lost decade in the 1990s were misdiagnosed as liquidity traps. In reality, they were credit crunches: Insolvent banks can't make new loans.

Liquidity Trap

Even when there's no private credit demand, the government needs to borrow. The central bank can increase the money supply even in the face of an investment slump.

I decided to do a Google search in an attempt to define or describe liquidity. Liquidity is ``Christchurch's premier dining experience,'' a restaurant and bar offering ``a range of international beers on tap including Stella Artois and Becks.''

Now there's a type of liquidity everyone can identify with.

(Commentary. Caroline Baum, author of ``Just What I Said,'' is a columnist for Bloomberg News. The opinions expressed are her own.)

To contact the writer of this column: Caroline Baum in New York at cabaum@bloomberg.net.

Last Updated: November 24, 2006 00:05 EST