Why should I open a savings account?

March 1, 2012

Your parents or grandparents have probably always emphasized the need to have a savings account. After all, everyone wants a nest egg against emergencies or just to have some money to spend when the time is right. However, savings accounts these days pay so little interest it may not seem worth it to open a regular savings account; by the time you pay for the gas to go to the bank, you may have eaten a year’s worth of interest!

Why do savings accounts pay such low interest?

The technical answer to this question lies in the way banks do business. In order to make money banks give less interest on savings account than they take in from loans and investments. Theoretically, savings interest follows the “prime” rate, or the rate set by the Federal Reserve through its funds rate. The lower the prime rate goes, the lower the interest on your savings goes. In times of low interest, borrowing money is cheap, but you do not make much on savings, either.

In fact, you can actually lose money on savings if the interest rate goes low enough. This happens when the interest rate does not keep up with the rate of inflation. The $100 you put into savings and earned less than one percent on last year may now be worth only $90. In this case, the interest you earned did not justify saving the money; you might have been better off to have purchased something that would appreciate in value. For this reason, many people feel that saving in times of high inflation and low interest is counterproductive.

However, there is a better question to ask: should you try to save money during times of low interest returns for other reasons?

There are several good reasons to have a savings account aside from the interest you earn on your money, or whether your account keeps up with inflation.

First, any interest you earn is money you did not have to work for. After all, even .25 percent is “free money” if your savings account is working for you. Instead of looking at low interest as a negative, you should try to see it for what it is: a positive, albeit a very small one. If you took that same $100 and put it in a sock under your mattress, it would still be worth $90 this year, but you would not have the small amount of interest you earned with your savings account.

There is also the principal of “pay yourself first” to consider. You work hard for your money, and it is easy to get into financial straits and find all of it going to someone else. Soon, you begin to wonder why you are working so hard; is it just to pay bills to your credit card companies and mortgage holder? If you save money, you are taking a portion of your earnings just for you. Psychologically, this has some great benefits for you: you are rewarding yourself for your hard work, and you are saving a portion of your earnings for future spending.

Putting something aside for a “rainy day” is also a very good psychological reason to save money. This makes you conscious of your own spending habits and makes it more likely that you will spend wisely. If you have a savings account with $3,000, you will often find that thinking about all the hard work that went into putting that money into that account makes you loath to spend it. If an unexpected expense of $200 comes up, you can easily pay it from your savings; however, you may be more likely to try to find ways to cut your budget this month so you do not have to dip into your savings. This mentality leads you to live more frugally and you wind up with even more money in savings.

The decision to put money into a savings account versus other investment vehicles is a very personal one. You should talk to an expert financial advisor before making any large investments; however, having a small savings account should be a goal for everyone. Experts recommend that, ideally, you have six months’ salary saved before you invest in more risky propositions. While this may not be feasible for everyone, at least two months’ salary is a good cushion against most emergencies, job losses, or sudden health problems.

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Alan Dunn

Written by Alan Dunn – one of our highly talented and underpaid writers. For more information on Alan follow him on Twitter or Google Plus