Household Deposits: Not too little, not too much

Abstract

Households hold deposits to cover immediate spending needs and sudden income losses (precautionary savings) but face a trade-off. They must hold enough deposits to insure against sudden income losses and liquidity shocks, but not too large deposits because other, less liquid, assets provide higher expected return. We provide the first tests in the household finance literature of whether people hold deposits for precautionary reasons, while also making sure not to hold too large deposits. Using detailed register data covering every individual in Denmark we find that people actively readjust their deposits following an exogenous increase, as captured by unexpected inheritances. Second, people use deposits and voluntary unemployment insurance as substitutes, meaning deposits are used to insure against sudden negative income shocks. Our results support that people hold deposits for precautionary reasons but adjust deposit holdings when they become too large.

Keywords: household finance, bank deposits, liquidity management, precautionary savings

JEL Classification: G11, G51