What is Liquidity?

Investopedia defines Liquidity as "the degree to which an asset or security can be bought or sold in the market without affecting the asset's price."  In other words, if offering to buy or sell a thing doesn't have any effect on the price of that thing, the market for that thing is perfectly liquid.

In daily life, it would appear that almost everything is perfectly liquid.  Prices are set, and they don't change when make purchasing decisions.  In reality, though, aggregate purchasing decisions of the entire market do move prices, and illiquidity is everywhere.

Most everyone is familiar with an auction.  The market we all use every day is very much like an auction, but with many sellers along with the many buyers.  The price of gasoline fluctuates as buyers and sellers negotiate prices.  You negotiate with your local gas stations by buying from the stations with lower prices.  Your choice to buy from the cheaper stations will cause the more expensive stations to lower their prices.  That shows that the gasoline market is not perfectly liquid.  In fact, no market is.

Gas is still fairly liquid, though.  Other goods are extremely illiquid.  Consider a fine art auction, where every time a person raises their hand, the price of the good being auctioned could go up $5000.  Picasso's paintings are extremely illiquid.