And of course, pass it on to your kids as well.

Why do I have to learn the tables? Why should I know these formulas? What is the use of all these mathematical problems?  are some of the questions I was often asked by my son during his early school days. I had my answer ready just like so many of you, am sure. I would say, “Maths is an applied subject, you can use them in your daily life. How would you know how much to pay a vendor? and How much to take back from him and so on and so forth.”  Some days he would agree and some days he would just choose to ignore.

Whilst teaching him Maths, I came across an interesting Maths concept i.e. compound interest. It must have been introduced in sixth class or seventh class. It took me a long time to explain the concept to him. At the same time, I must admit I don’t think I ever completely understood or appreciated its importance till I started my investment journey.

Did you know that Albert Einstein called Compounding Interest the Eighth wonder of the world! He said, He who understands it, earns it, and he who doesn’t, pays it! No wonder he was a genius.

Oh yes, it’s one of the most important finance lessons to learn, earlier the better. So how does it impact you? It can work for you or work against you.

How to make it work for you?

Compound interest is really a math concept that shows the power of making interest on not just your principal but also interest.  The two key elements for its success are

  1. Time – earlier you start sooner you get it working in your favour
  2. Regular investing – If you can put away money at periodic intevals and be consistent about it, money grows that much faster.

Some of the financial instruments that makes full use of this math concept is Public Provident Fund(PPF), SIPS in Mutual Fund(however there is market movement to consider),Recurring deposit. There are many financial calculators on the net that projects earnings for all these financial instruments.

Now how does it work against you?  If you have taken loan or owe some entity.  Every day you are losing money by owing it. For instance Credit cards or any loan, especially with personal loans having the highest interest rates. These rates can make paying back the loan very, very difficult because you are losing money quickly and adding more and more to your debt total. Avoid high interest rates whenever possible. Many people take back to back loans without realizing the amount of money they are losing while repaying it.

You should not ignore the Interest. If you are investing you must make it a point to understand how much you are making on your investments. If you are borrowing, you always need to know how much it is costing you to borrow. When you start to realize how interest works, you will come to appreciate what Albert Einstein meant when he said “Those who don’t understand interest Pay it, those who do Earn it”.

Now I hope my son too understands it early in life, not just as a Math concept but as a lesson No. 1 in handling his finances!

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