Question

You have $2000 to deposit for 7 years and two account options. The first earns you simple interest at a rate of 4% and the second earns you compound interest (compounded annually) at a rate of 2%. Which account earns you more money?

First account (simple interest)

Second account (compound interest)

They earn you the same

Not enough information to say

Answer 1

First account (simple interest)

Explanation:

The amount of interest earned by the first account is ...

I = Prt = $2000·0.04·7 = $2000·0.28 = $560

The amount in the second account at the end of 7 year is ...

FV = P·(1+r)^t = $2000·1.02^7 = $2297.37

so you have earned $297.37 in interest on the second account.

$560 is more than $297, so the First Account (simple interest) earns more money.