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Minimum Transfer Balance

The cash manager of Verematic, Inc., is contemplating the choice between using a wire transfer and a paper-based DTC. He estimates that his investment opportunity rate is 9%. The bank's ECR is currently 4 percent, and the reserve requirement is 12%. His bank account officer informs him that a wire transfer will cost $15 and will provide collected balances one day earlier than the EDT, which costs $0.30.

a. Assume that the balances transferred are above the balances required to compensate the deposit bank for its services. Calculate the minimum transfer balance required to justify the use of a wire transfer.

b. Assume that the balances transferred are below the balances required to compensate the deposit bank. Calculate the minimum transfer balance required to justify the use of a wire transfer.

c. Why are the answers in the two preceding parts different?

Solution Preview

Minimum Transfer Balance (MTB) = Incremental Cost / {DS x (k - ecr(1 - rr )) / 365 }

Where DS is day saved;k is Firm investment opportunity rate; ecr is Bank earnings credit rate; rr is Required reserve rate;
Incremental Cost = wire transfer cost - EDT

A - ...

Solution Summary

The solution computes the minimum transfer balance for wire vs paper based DTC.

$2.19