Question

Which of the following statements is correct? Group of answer choices

a) The principal is the amount of interest earned each period.
b) Discounting is the process by which interest earned on an investment is reinvested so that in future periods, there is interest on interest as well as the original principal.
c) Compound interest consists of both simple interest and interest on interest.
d) The future value is simply the current value of a future cash flow that has been discounted at the relevant discount rate.
e) All the answers are correct.

Answer 1

Compound interest consists of both simple interest and interest on interest.

Step-by-step explanation:

The correct statement among the given options is: c) Compound interest consists of both simple interest and interest on interest.

Compound interest is the interest calculated on the principal amount as well as the accumulated interest. It includes both simple interest, which is calculated only on the principal, and interest on interest which is earned on the accumulated interest in previous periods. This makes the total interest earned higher than simple interest.

For example, if you have $1000 invested with a compound interest rate of 5%, at the end of the first year, you would earn $50 in simple interest. However, in the second year, you would earn interest not only on the initial $1000 but also on the additional $50 earned in the first year, resulting in a higher amount of interest.