Diminishing Marginal Utility of Cash Liquidity


Disclaimer: Please note that all content and information in this blog are for educational and informational purposes only and should not be taken as professional investment advice.

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The more cash you have, the less likely you are to take advantage of its liquidity. The liquidity advantage provides benefits, in other words, utility. 

As such, the more cash you have, the less liquidity utility you derive from every additional dollar of cash you hold. This assumes the cash you hold is parked in a liquid financial instrument, e.g. savings account. The more cash you have, the lower likelihood you are to withdraw all your cash. 

Therefore, this leaves more cash stuck in the savings account, with more unutilised liquidity benefits. Thus, this is reflected in the form of diminishing marginal liquidity utility as you hold more cash.

For this reason, it's good to minimise your cash holdings. Keep only what is necessary.

However, each of us has different circumstances and some of us may value having a sufficient large cash buffer in case of unforeseen circumstances. Regardless of our wealth, it is crucial to keep a reasonable cash buffer, whether it is 6 months or even 6 years' worth of expenses.

What matters is that you have peace of mind. But it pays to be aware of the diminishing marginal utility one gets from holding too much cash. Every additional dollar kept in the bank yields less utility than the previous dollar before it.

Therefore, it is important to keep the right amount of cash depending on our needs and situation. Only we will know what amount of cash we need to keep for peace of mind.

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Disclaimer:
The content and information provided on this blog is solely for educational and informational purposes, and should not be construed as financial advice. The accuracy or completeness of the content and information provided in the blog cannot be guaranteed. Before making any investment decisions, it is important for readers to research and carry out independent verification of the information provided, or consult with a qualified financial professional. No warranty and no liability whatsoever is accepted for any loss arising whether directly or indirectly as a result of actions taken based on the ideas or information found in this blog.

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