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LOAN LOSS RESERVES: A special account set aside by banks acting as a buffer between deposits and net worth that's used in case a loan is not repaid. Without this reserve, an unpaid loan on the asset side of a bank's balance sheet would require an adjustment of deposits or net worth on the liability side. The loan loss reserve is used for this adjustment.
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                           CERTIFICATES OF DEPOSIT: Interest-paying bank accounts maintained by traditional commercial banks, credit unions, savings and loan associations, and mutual savings banks that stipulate a fixed interest rate and the length of maturity before the funds can be withdrawn. Certificates of deposit (CDs) pay a higher interest rate than regular savings accounts, but the funds cannot be withdraw at the full interest rate until the maturity date. These are one of two types of time deposits. The other is savings deposits. Certificates of deposit, along with savings deposits and other near monies, are added to M1 to derive M2. Certificates of deposit (CDs) are accounts with explicit maturity dates and which pay a higher interest rates than that found with standard savings accounts. Maturity dates can range from one week to several years. Longer maturity dates invariably correspond with higher interest rates. If the deposits are withdrawn prior to the maturity date, then an interest penalty is imposed, that is, the interest rate paid on the deposit is reduced.Certificates of deposit are so named because in the days before computerized record-keeping, depositors received an actual certificate, a document, stipulating the terms of the deposit--maturity date and interest rate. CDs and M2M2
June 2004 (Billions) |
| | Component | Amount |
|---|
| | M1 | $1,335.2 | | Near Monies | 4,957.5 | | Savings Deposits
and Money Market Deposits | 3,408.3 | | | Small Denomination
Time Deposits | 792.2 | | | Money Market
Mutual Funds | 757.0 | | |
| | Total M2 | $6,292.7 |
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The table to the right presents recent values for M2 and its two key components, M1 and near monies. Contained within the near monies category are certificates of deposit, labeled "Small Denomination Time Deposits" in the table. CDs are a modest, but not insignificant contribution to M2, totalling $800 billion dollars in June 2004.Fixed Time, Fixed InterestThe selling point for certificates of deposit is the fixed interest rate paid for a fixed time period. This enables certainty that is highly valued in the financial world. Customers now exactly how much interest their deposit generates. Banks know exactly how long they can count on having the funds deposited before being withdrawn. The maturity period for CDs ranges for a minimum of seven days (stipulated by government banking regulations) to five years (or even longer). Longer maturity periods are invariably tied to higher interest rates. Banks are willing to pay higher rates for longer access to the funds and customers typically need higher rates to tie up their funds for longer periods. The certificate part of certificates of deposit is a holdover from pre-computer days when an actual paper document was issued that stipulated the interest rate and the maturity period. This was, in effect, the banking version of savings bonds issued by the Federal government. However, with modern computer accounting, certificates are seldom if every issued for these accounts. While the accounts function the same, the version of certificates of deposit issued by credit unions are termed share certificates. A Word About Savings DepositsSavings deposits are standard savings accounts or passbook accounts offered by traditional commercial banks, savings and loan associations, and mutual savings banks. Share accounts at credit unions and money market deposit accounts at all types of banks and thrift institutions are also included in this category. Savings deposits have a legal time requirement of at least seven days, which is seldom enforced. Unlike certificates of deposit, there is no explicit maturity date on savings deposits. These deposits also have limits on the number of withdrawals per month, often with a minimum amount per withdrawal. Liquidity PlusCertificates of deposit, and to an even greater degree savings deposits, fill an important niche in the world of banking services. First, they provide customers with a great deal of liquidity. Certificates of deposit are NOT money and CANNOT be used as a medium of exchange. But they can be easily and quickly converted to currency or checkable deposits, even though interest payments might be lessened. Second, certificates of deposit store wealth for customers and provide banks with a pool of funds that can be used for loans. The minimum time requirements give banks some degree of assurance that the funds will be available for lending.
Recommended Citation:CERTIFICATES OF DEPOSIT, AmosWEB Encyclonomic WEB*pedia, http://www.AmosWEB.com, AmosWEB LLC, 2000-2022. [Accessed: January 24, 2022].
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BLUE PLACIDOLA
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Junk bonds are so called because they have a better than 50% chance of default, carrying a Standard & Poor's rating of CC or lower.
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