Question

What is meant by near-money? Give an example.

Short answer

Near-money refers to highly liquid financial assets that can be easily and quickly converted into cash without a significant loss of value, such as savings accounts. Savings accounts are considered near-money due to their high liquidity, low risk, and stable value. Other examples of near-money include money market accounts, short-term government bonds, and highly rated corporate bonds.

Step-by-step solution

Definition of Near-Money

Near-money, also known as quasi-money, refers to highly liquid financial assets that can be easily and quickly converted into cash without a significant loss of value. These assets are considered to be nearly as good as cash due to their high liquidity and low risk.

Example and Characteristics

An example of near-money is a savings account. A savings account is considered near-money because: 1. It is easy to access and withdraw funds from a savings account, which makes it highly liquid. 2. Savings accounts have a low risk because they are insured by the government (up to a certain limit) and are held at financial institutions that are regulated. 3. The value of money in a savings account is stable and not subject to rapid fluctuations. Other examples of near-money include money market accounts, short-term government bonds, and highly rated corporate bonds.

Key concepts

Financial Assets Liquidity

When discussing the liquidity of financial assets, we're focusing on how quickly and easily an asset can be converted into cash. Liquidity is an essential characteristic of assets for both individuals and businesses, aiding in meeting immediate financial needs or taking advantage of new investment opportunities.

Highly liquid assets, such as cash itself, can be used almost immediately to transact. Near-money assets fall close on the liquidity spectrum because they can be quickly and easily converted into cash, often without incurring significant losses. Examples include savings accounts, money market accounts, and certain types of bonds. The key is their ability to be liquidated swiftly and with minimal impact on their value, making them almost as convenient as cash for meeting financial obligations.

Savings Account

A savings account is a classic example of near-money due to its high liquidity and low risk. It's a deposit account held at a bank or other financial institution offering a modest interest rate. Savers appreciate savings accounts because they can withdraw their funds relatively quickly, often via bank transfers, ATMs, or teller transactions.

While checking accounts are typically used for routine transactions, savings accounts are better suited for stashing away funds you don't need immediately but may want accessible in a pinch. Remember, while they're conveniently liquid, savings accounts might have limitations on the number of withdrawals per month before fees or other penalties apply.

Money Market Accounts

Money market accounts bring together the features of both savings and checking accounts, offering a higher interest rate than the former and typically higher withdrawal limits. They also provide check-writing capabilities, which further boosts their liquidity.

Often insured by government-backed agencies up to certain limits, these accounts are a popular choice for maintaining a liquid financial asset that still earns better returns than a standard savings account. Money market accounts are suitable for keeping funds liquid while seeking to earn a bit of interest, bridging the gap between savings and investments quite effectively.

Short-term Government Bonds

Short-term government bonds, such as Treasury bills (T-bills), are securities issued by the government to fund various public projects and governmental obligations. These bonds have maturities that typically range from a few days to a year. Given the backing of the government, they are considered low-risk investments.

Investors favor these bonds when they want to preserve their capital while still earning a return. Their high liquidity comes from the substantial market where they can be sold before maturity if necessary. Short-term nature implies that one doesn't have to wait long for the bonds to mature and reclaim their cash, making these instruments nearing the liquidity of cash.

Corporate Bonds

Corporate bonds are debt securities issued by companies to raise capital. They are regarded as near-money when they are highly rated, implying a low risk of default. Despite this, they are typically less liquid than government bonds due to the credit risk associated with the issuing corporation.

Bonds with shorter maturities or those that are actively traded in the bond market tend to be more liquid. They can be sold on the secondary market if an investor needs cash before the bond's maturity. However, because they rely on the financial health of the issuing company, selling corporate bonds may sometimes result in a loss if market conditions are unfavorable.