## Monday, July 7, 2008

### Taking the road less optimized

I'm a numbers guy.

I love numbers. I actually enjoy working with spreadsheets, and I love the challenge of working out the mathematically optimal way of doing things. Flexo at Consumerism Commentary has a great post today on the power of a "mathematically correct" solution, and I have to say I agree with his logic.

That doesn't mean, however, that I always use the optimal solution.

Take my bi-weekly cash flow, for example:
1. Money comes into our joint chequing account on payday

2. Fixed expenses, including mortgage payment, student loan payment and line of credit payment, come out of chequing

3. Emergency Fund and Freedom Account contributions are transferred from chequing to online savings

4. Leftover cash gets transferred into my secondary chequing account, as my spending money for the next two weeks

5. As I spend money on groceries, entertainment, etc., I either pay cash, or use my credit card and immediately transfer the corresponding amount from chequing to my line of credit

6. When my credit card payment is due, I pay the bill with my line of credit
Steps 5 and 6 are my attempt to perform small-scale credit card arbitrage with my monthly spending. Because the credit card is paid in full every month, each purchase essentially represents an interest-free loan until the next payment due date. By making a corresponding interim payment to my line of credit, I'm actually using my credit card to defer interest accrual on the LOC, and saving myself some money.

I'm pretty proud of having devised this system, but I can't ignore the fact that, if I skipped steps 4 and 5, and instead just transferred all my leftover cash onto my LOC on payday, I would save even more interest. Even though this might be the "right" way to structure my cash flow, I've learned from experience that it's much easier to lose track this way than it is with the method described above. I find that transferring funds every time I make a purchase gives me a much more concrete feel for how much I've spent, and how much I have left before the next payday. The extra interest that I accrue by leaving that money sitting in the chequing account ends up being the "fee" that I pay for having a system that works for me.

True, I could be paying less interest, but I could also be paying a lot more, and I'm happy to find some middle ground.

This is partly about having training wheels on our financial bicycle, but it's also about priorities. I keep \$200 of my Emergency Fund in physical \$20 bills, earning no interest, so that we have cash immediately available in an emergency. Both Ms. Loonie and I have income tax withheld by our employer so that we don't have to worry about making up a shortfall at the end of the year, and also to keep us thinking of our income in net, rather than gross terms.

As the size of our Emergency Fund grows, it will become more important to optimize the vehicles we use for these savings. Similarly, as the gap between income and expenses grows, the impact of where I keep my "in-flight" cash will become more significant. However, for now, I think the small dollar amount we give up in order to have a convenient, manageable system is worth it.