If a bank or a person lends a sum of money to anyone, they impose a certain percent of interest to it. Simple interest refers to the principal sum of loan; it grows with every month or year so that the total simple interest is calculated by adding interests of every period. As a reinvested sum of money grows, such a phenomenon as interest on interest takes place. In economics it is called a compound interest and it makes a deposit or loan grow even faster than it does merely with simple interest.
The amount of compound interest depends on the frequency of compounding. Compounding period is a span of time after which another portion of interest is charged. The more compounding periods occur within a deposit or loan, the more compound interests are charged. Interest on interest may seem really small, but in fact, it can significantly increase the loan in the long run.
Compound interests work for those who have a deposit and against those who try to repay a credit-card debt. Credit card balance usually have a high interest rate compounded monthly, which means that over a year a debtor shall pay more interest on interest. Compound interest exists to benefit lenders as debtors cannot stop borrowing money. For this reason, every individual as a subject of economic relationships shall learn about the mechanism of charging compound interests. Some people still believe that a debt is easy to repay, but constant interests may slow down the process.