Question

Christina invested $3,000 five years ago and earns 2 percent annual interest. By leaving her interest earnings in her account, she increases the amount of interest she earns each year. The way she is handling her interest income is referred to as:A. Simplifying.
B. Compounding.
C. Aggregation.
D. Accumulation.
E. Discounting.

Answer 1

Answer:

B. Compounding

Explanation:

In compound interest, the interest earned in a period becomes part of the principal amount for the next period. The principal amount will, therefore, be increasing every year. As the principal amount increases, the interest earned rises.

Because the interest earned becomes part of the principal amount, it means that interest earned also earns interest. Unlike the simple interest which earns constant interest throughout, compound interest increases with time.