Question

Imagine that 50 years ago, your aunt made an investment of $10 into an account that earned 12% each year. What is the effect of compounding? (Round to 2 decimal places, do not include dollar signs in your response.)

Answer 1

Compounding of interest means interest is earned not only on principal amount but also on the interest amount earned every year , thus compound interest is interest on interest

Here Amount deposited = $10 , r = rate of interest = 12% , n = no of years = 50

Thus FV = PV(1+r)^n

=10(1+12%)^50

=10(1+0.12)^50

= 10(1.12)^50

= 10 x 289.002

= 2890.02 $

Thus after 50 years amount in account if interest is compounded annually = 2890.02 $

Instead of compound interest if account was earning simple interest than

Interest = 10 $ x 12% x 50

= 60 $

Thus after 50 years amount in account = 10 + 60 = 70$

Thus it can be seen that if interest is compounded , than it will generate huge wealth

Ans: Amount after 50 years = 2890.02