You might be surprised to know the way you’ve looked at your money in the bank might be all wrong.
As a general rule, we encourage everyone to have an emergency fund in their budget for a rainy day. This can be 3 to 6 months’ worth of expenses stashed away in a bank savings account with easy access.
In the real world that money is just a digital figure you can view when you log in online to check your bank balance. The bank as a business has already utilised that money into investments for itself but will offer you a small percentage in return to keep your money there.
The business model of banking is to manage the flow of money between people and businesses. If you think about it we don’t all want to use our money at the same time. This works perfectly so the bank has time to use that money to lend out and make a profit.
Depending on the type of bank they primarily make money from the interest on loans and the fees they charge their customers.
Why do you lose money by just saving in the bank?
It’s all to do with inflation and buying power.
Inflation is the rate at which the general level of prices for goods and services rises, leading to a decrease in purchasing power. Essentially, it reduces the value of a currency over time.
For example, if the inflation rate is 5%, a £100 item today would cost £105 a year from now. This means that with the same amount of money, you can buy less in the future due to rising prices.
Now imagine you’d saved £20,000 in the bank which would be £1000 lost in a year due to inflation. Even though your balance wouldn’t drop in the bank your purchasing power to exchange that money for goods or services would.
The average interest rate for a bank savings account is 3.17% and the inflation rate in Jan 2024 was 5.1%.
The difference of 1.93% is what you’d lose had you opted to keep all your money in savings.
How much is too much cash in the bank?
It all depends on your household’s financial situation. This varies for everyone and the amount for a single dad with one child won’t be the same as a married man in a household of four kids looking to pay to send them all to university.
Ideally, if you have enough in cash to fully cover 3 to 6 months’ worth of expenses in an emergency fund. You also won’t need the excess money for any immediate financial goals such as buying a home or paying off debt (possibly your mortgage too).
Any cash outside emergencies and financial goals should be ideally invested into giving you a better return than the average bank savings account and above the inflation rate. If anything search for high-interest savings accounts but be warned they might request you don’t touch your money for a certain period or there’ll be a penalty.
Remember money is a tool to be managed
Like most tools, if you don’t store them correctly they’ll get rusty and if misused over time will break and fall apart.
Money like any other tool should be used diligently with a careful plan and alongside other tools such as a personal budget. Research the best ways to grow your money paying close attention to tax savings and interest rates in the market.
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