Suppose a bank advertises a “free” checking account but requires that a $2000 minimum average daily balance be maintained in the account. Why is the account not really free ? What is its cost?
The account is not free because there is an opportunity cost associated with the minimum balance requirement. The magnitude of this opportunity cost depends on the difference between the rate of return that could be earned on these funds if they were invested in other assets and the rate of return that the checking account pays. For different investors with different attitudes towards risk, the alternative investments undertaken with their $2000 and the rates of return expected on those investments might differ. The opportunity cost of this minimum balance requirement for very risk averse investors is not as great as for those with greater risk tolerance, since very low risk investments have a lower rate of return than assets exposed to market risk.