It is important to understand the difference between simple and compound interest. Two different equations, resulting in two different outcomes. Compounding interest is the common used methods and is mostly used with deposit accounts and/or loans.

Simple interest is interest that reoccurs on your initial investment. For an example if you invested $5,000 at a rate of 3%, the first yea you will get back $150. Year two is $150, Year three is $150 and so on and so on.

Compounding Interest works different. Let’s take that initial investment of $5,000 at a rate of 3%. The first year is similar with simple interest which resulted in $150. However after the first year is when everything changes. The second year 3% is not on $5,000, but $5,150 which equals out to $5,154.

This is what we talked about in class when discussing exponential function. Although my example wasn’t as extreme as the grain of rice or bacteria in a bottle but with the compounding interest formula and my given data after 10 years it would calculate to $6,719.58 verse $6,500. $219.58 extra if you used compounding interest.

This is a very interesting and practical post! It is important for young college students to understand how interest works on deposit accounts and loans because many students take out loans to help them pay for their college education. It is also important to understand these two different types of interest and how they affect your initial investment before making a large investment in something such as education or a car or house. Great post!