*noun*; the tendency for the public to want to hold income in
cash relative to its willingness to hold it as interest-bearing savings (bonds).
The liquidity preference is analogous to a supply curve for lendable funds. If the price for lendable funds--that is to say, the interest rate--is high, then the amount be be
large. If the interest rate is low, then the public will be more inclined to hoard income as
cash.
Income held as
cash is not
spent on goods and services, so if the amount increases abruptly then there will be a recession. If it is held in some interest-bearing form, then it can be
spent on fixed capital, thereby increasing output and employment.
During a recession, if the liquidity preference is high, a lot of money is going to be held as
cash. One could free up some
cash for job-creating investment by raising interest rates, but that would eradicate a lot of business opportunities. So monetary authorities monetize debt instead, creating a new supply of credit to replace the savings lost by falling interest rates.
...An individual’
s liquidity preference is given by a schedule of the amounts of his resources, valued in terms of money or of wage-units, which he will
wish to retain in the form of money....
John M. Keynes, *General Theory of Employment, Interest, and Money* (1936),
Ch.13
