U2: your own money: savings

So I'm savings accounts need to be

"Segregated" because of different tax consequences Dash retirement or education accounts, for example

You can calculate the eventual value of your account by using the relationships of time in value. That is:

(1+r)^t

Annual percentage rate

(APR) the rate at which your principal compounds that your account earns

When incomes are larger than expenses, there is

A budget surplus, and that surplus can be saved

Some checking accounts do earn some interest, but often require

A minimum balance

However, interest rates change, and banks with savings plans that offer higher yields often require

A minimum deposit, minimum balance, and/or a maintenance fee

For the borrowers, the bank can create

A steady supply of surplus money for the loans (from the lenders), and arrange standard loan terms for the borrowers

If you do not withdraw the interest from your account, it is

Added to your principal balance, and you earn interest on both. This is referred to as earning interest on interest, or compounding

You give up more liquidity when you

Agree to commit to a minimum time or amount of money to save or lend

Intermediation allows for the

Amount loaned or borrowed to be flexible and for the maturity of the loans to vary. That is, you don't have to land exactly the amount someone wants to borrow for exactly the time she or he wants to borrow it

The bank functions as

An intermediary or "middleman" between the individual lender of the money ( the saver) and the individual borrower of money

Since the financial crisis of 2007 to 2009, bank money market funds also

Are insured

Most individuals are less willing to

Assume opportunity costs and risks when it comes to consumption, thus limiting the time that they are willing to earn liquidity

For most individuals, access to the money markets is done through a

Bank

To finance consumption, however, most individuals primarily use

Banks

You do not want to give up too much liquidity and then risk being caught short

Because then you will have to become a borrower and make up the shortfall, which will create additional costs

If you were using CDs, the strategy is called

CD laddering

If you were willing to give up more liquidity,

Certificates of deposit (CDs) offer a higher price for liquidity but extract a time commitment and forced by penalty for early withdrawal.

Your expectations of interest rates will

Contribute to your decision to give up liquidity

Certificates of deposit are offered for

Different maturities, which are typically from six months to five years, and have some minimum deposits as well

The different time horizons and risk tolerance is of the buyers, and especially the sellers, in each market create

Different ways of trading or packaging liquidity

By having many lenders and many borrowers, the bank

Diversifies the supply of and demand for money, and this lowers the overall risk in the money market

One strategy to maximize liquidity is to

Diversify your savings in a series of instruments with differing maturities

The laddering strategy is an example of how

Diversifying maturities can maximize both earnings and liquidity

In choosing an intermediary, savers should make sure that accounts are

FDIC or NCUA insured

Since the bank failures of the great depression, bank deposits are

Federally insured (Up to $250,000) through the FDIC (Federal deposit insurance corporation)

If your liquidity needs are more predictable or longer-term, you can

Give up liquidity without creating unnecessary risk and can therefore take advantage of products, such as CDs, that will pay a higher price

Retail banks

Have focused on consumer saving and borrowing

Commercial banks

Have focused on operating cash flow management for businesses

If you expect interest rates rise, you will want to

Invest in shorter term maturity's, so as to regain your liquidity in time to reinvest at higher rates

If you cannot predict your liquidity needs or you know they are immediate, you should choose products that will

Least restrict your liquidity choices

Because money trade in markets and liquidity has value, your alternative is to

Lend that liquidity to someone who wants it more than you do at the moment and is willing to pay for its use

Checking accounts that do not earn interest are

Less useful for savings and therefore more useful for cash management

If you expect interest rates to fall you would want to invest in

Longer-term maturity so as to maximize your earnings for as long as possible before having to re-invest at lower rates

A "laddering" strategy allows you to

Maximize return and liquidity by investing $1000 per month by buying a one-year CD. After 12 months, all your savings is invested in 12 CDs, each earning 1.5%. Because the CD matures each month, you have $1000 worth of liquidity each month. You can keep the strategy going by reinvesting each CD as it matures

Time deposits, or savings accounts, offer

Minimal interest or a bit more interest with minimum deposit requirements

The bank can also expertise in screening borrowers to

Minimize risk and in managing and collecting the loan payments. Intern, that reduced risk allows the bank to attract lenders and diversify supply

The markets for liquidity are referred to as the

Money markets in the capital markets

Well the borrower has more opportunity, you (the seller) have

More opportunity cost because you give up more choices over a longer period of time. That also creates more risk for you, since more can happen over a longer period of time

For the Savior, a demand deposit (e.g., checking account) typically earns

No or very low interest but also complete liquidity on demand

In most cases, however, separating accounts by their intended use has

No real financial value, although it can create a psychological benefit

For the saver or lender, the bank can

Offer the convenience of finding and screening the borrowers, and of managing the loan repayments

Ideally, you would choose a bank savings instrument that

Offers the highest APR and most frequent compounding

They are cost advantages for the bank if it can use

Online technologies in processing saving and lending. Those cost savings can be passed along to savers in the form of higher returns on savings accounts or lower service fees

Money sitting idle is an

Opportunity cost

In addition to banks, other kinds of intermediaries for savers include

Pension funds, life insurance companies, and investment funds. They focus on saving for a particular long-term goal.

Banks offer many different ways to save your money until you use it for consumption. The primary difference among the accounts offered to you is the

Price that your liquidity earns, or the compensation for your opportunity cost and risk, which intern depends on the degree of liquidity that you were willing to give up

You can use the annuity relationships to

Project how much the account will be worth at any point in time, given the rate at which compounds

Banks serve to

Provide the consumer with excess cash by having the cash earn money through savings until the consumer needs it

A laddering strategy can also

Reflect expectations of interest rates

One saving strategy is to create

Regular deposits into a separate account that you might have a checking account from which you pay living expenses and a savings account in which you save. This is easier with direct deposit of wages, since you can have a portion of your disposable income go directly into your savings account. Saving becomes effortless, while spending actually requires a more conscious effort

Because their roles as intermediaries is critical to the flow of funds, banks are

Regulated by federal and state governments

The capital markets are used for

Relatively long-term, higher risk trading of money

The money markets are used for

Relatively short term, low risk trading of money

Since they create value in the market (by lowering costs), banks

Remain as intermediaries or middleman in the money markets

In order to save it all, however, you have to choose to

Save income that could otherwise be sent, suffering the opportunity cost of everything that you could've had instead

Consumers use retail institutions, including the following

Savings banks Mutual savings banks Savings and loan associations Credit unions

Treasury bills

Short term government debt

Credit union accounts are

Similarly insured by the national credit union agency or NCUA, also an independent federal agency

Credit unions function

Similarly to retail banks, but are cooperative membership organizations, with depositors as members

The price that you can get for your money has to do with

Supply and demand for liquidity in the market, which in turn has to do with a host of other macro economic factors

The time until you withdraw your funds is

T

Your interest from savings is

Taxable, as it is considered income

When individuals are saving or investing for a long-term goal (e.g., education or retirement) they are more likely to use

The capital markets; Their longer time horizon allows for greater use of risk to earn return

The longer you lend your liquidity,

The more compensation you need for your increased opportunity cost and risk

Retail banks are commonly known as

Thrift institutions, saving banks, savings and loan associations, or mutual savings banks and are usually private or public corporations

Savings products versus liquidity and risk

Time commitment- less: checking, savings, MMMS; more: CDs Risk - less: checking, savings, CDs; more: MMMS Interest earned - less: checking, savings; more: MMMFs, CDs

Saving to finance consumption relies more on

Trading liquidity in the money markets, because there is usually a shorter horizon for the use of the money

Compared to the capital markets, the money markets have

Very little risk, so MMMF's are considered very low risk investments

Establishing a savings vehicle has a

Very low cost, if any, so it is easy to establish as many separate funds for saving as you find useful

If you expect interest rates to fall, you would want to

Weight you laddering strategy to longer-term CDs, keeping only your minimum liquidity requirement in the shorter term CDs

You could keep the budget surplus in your position and store it for future use, but then

You have the burden of protecting it from theft or damage. More importantly, you can create an opportunity cost

As you can imagine, however, with monthly automatic deposits into a savings account with the compounding interest, you can see

Your wealth can grow safely

Banks can also offer investments in money market mutual funds (MMMF's), which offer

a higher price for liquidity because your money is put use in slightly higher risk investments, such as treasury bills (short term government debt) and commercial paper (short term corporate debt)

Some intermediaries have moved away from the

"Bricks and mortar" branch model and no operators online banks, either entirely or in part

The bank can

"Disconnect" the lender and the borrower, creating that flexibility

If you were depositing a certain amount each month or with each paycheck, that stream of cash flows is an

Annuity

When you use someone else's money or when you borrow, you are the

Buyer of the liquidity

Savings instruments include the following

Demand deposit accounts Time deposit accounts Certificates of deposit Money market mutual fund accounts

If you believe that interest rates were the earnings on your money will increase, then you

Don't want to commit to the currently offered rates for too long. Your laddering strategy may involve a series of relatively short term (less than one year) instruments

Investment banks

Have focused on long-term financing for businesses

Your choice of savings instrument should reflect your

Liquidity needs

Through diversification and expertise, banks ultimately

Lower the cost of lending and borrowing liquidity

A savings strategy can

Maximize your earnings from savings

If you are willing to lend your liquidity for a long time, then the borrower has

More possible uses for it, and increased mobility increases its value

The balance in your account today is your

Present value (PV)

Your future value depends on the

Rate at which you can earn a return or the rate of compounding for your present account

The APR is your

Rate of compounding, r

In the money market, all such instruments are

Relatively low risk, so return will be determined by opportunity cost

When you save, you are the

Seller or lender of liquidity

Commercial paper

Short term corporate debt

The price that you can get for your money also has a lot to do with

Time, opportunity cost, and risk

As long as money remains in your account, including any interest earned while it is there,

You can earn interest on that money