Pub. 5 2017 Issue 4

www.uba.org 14 Here we can see that, given the assumed parameters, a substantial savings can be realized by allowing the rate sensitive deposits to runoff and replacing them with on-demand funding from the Federal Home Loan Bank of Des Moines. Even though the advance rate is 1.91 per- cent, the marginal cost of replacing the deposits is only 1.51 percent. The reason being, since there is no in- crease to non-rate sensitive deposits, the marginal cost is only the differ- ence between the cost of replacement funding and the rate sensitive depos- its that went elsewhere. When making the determination to stand pat or pay up, the marginal cost of the strategy used in accomplishing your objectives should be considered. As we have seen, when the hidden and not-so-hidden marginal costs are considered, tapping your bank’s reliable wholesale funding may be the cheapest alternative. If you have any questions or would like to discuss the concept of marginal cost, please contact any of the following: Brandon Casey 206.340.235 Eric Jensen 206.434.0581 Brett Manning 206.340.2472 Brandon Casey Federal Home Loan Bank of Des Moines n In this example, it is easily determined that paying up results in an additional cost of $85,000. However, the marginal cost of increasing rates in this case is really 1.89 percent because you are paying an additional $85,000 just to retain the rate sensitive deposits which only account for $4.5 million. Alternatively, let’s assume that we hold our ground, stand pat, and let the “hot” money go. Table 3 shows the marginal cost of holding rates constant and replacing the runoff with a one-year Bank advance at a rate of 1.91 percent. Table 3. Marginal Cost of Holding Rates Constant and Replacing Runoff with a Bank Advance Deposit Type Amount Rate Rate Increase Marginal Cost Non-Rate Sensitive 5,500,000 0.40% 0.00% - 1-Year FHLB Advance 4,500,000 1.91% 1.51% 67,950 Total 10,000,000 67,950 Marginal Cost 1.51%