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what is the connection betweent the compounding Intrest formula and the repeated applications of simple intrest

Guest Feb 15, 2017
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1) In compounding you get "interest on interest". Example: $1,000 that earns interest @ 6% compounded annually. So, for the first year you get: 6/100 x 1,000 =$60. But in the second year you get: another $60 + $60 of year 1 + interest on this last amount @ 6%, which comes to $3.60, for a total of: $60+$60+$3.60=$123.60 for 2 years.

 

2) In simple interest you just get $60 year after year after year!. So, in 2 years you get $60 x 2=$120.

Now, for 2 years there doesn't seem to be that much difference. But if you went for 20 years, then the difference between the two would as follows:

a) - In 20 years using compounded interest, you would have:$2,207.14 in interest ONLY.

b) - In 20 years using simple interest, you would have: $60 x 20 =$1,200 in interest ONLY.

Now, you can see the power of componding interest vs simple interest.

Guest Feb 15, 2017

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