Consider Scenarios 1 Below

question 83

Multiple Choice

Consider Scenarios 1 below:
Scenario 1
Consider two money management strategies. The first strategy is called the cash strategy in which an individual deposits her monthly earnings in a checking account and draws down equal amounts each day to finance her daily expenditures. Assume that she earns no interest on her checking accounts and funds are exhausted at the end of the month. The second strategy is called the bond fund strategy. Here the individual deposits one-quarter of her earnings in a checking account and the remaining three-quarters in a bond fund. The bond fund pays 1% interest per month. At the end of the week when the money in the checking account is exhausted, the individual replenishes it by withdrawing another one-quarter of her earnings from the bond fund for the next week. This process is repeated at the end of the second week and third week until the bond fund is exhausted.
At low interest rates, an individual

• A) is more likely to adopt the bond fund strategy.
• B) might favor the simple cash strategy because the opportunity cost has increased.
• C) might favor the simple cash strategy because the interest foregone is minimal.
• D) might be indifferent between the two strategies because the cost of transferring funds between interest earning assets and checkable deposits falls.

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