Interest

Interest refers to a certain amount of money, a fee, that a person pays to the owner of an asset when the person is borrowing that asset from the owner. For instance, in the case of borrowing money, (i.e. a loan), the person borrowing the money pays a monetary price for borrowing that money. Also, interest can refer to a person gaining money through money he or she deposits into a bank.

Simple Interest

When it comes to interest, there are several types. One type is called simple interest. This is a type of interest involving only the principal amount on a loan, or else the amount of money on the loan that has yet to be paid. A specific mathematical formula is used to arrive at the simple interest amount, where the simple interest equals the original balance (the principal) multiplied by the current interest rate by the amount of time period that have passed. The formula look like this:

Simple Interest = P x I x N

Thus, for example, if you borrowed $3,000 for 5 years, at a interest rate of 5%, your amount of simple interest would be:

Simple Interest (3,000 x 0.05 x 5) = $750

Thus, adding up the principal amount, you would need to pay $3,750 after five years.

Inflation

Inflation and interest are usually intertwined, if you discuss one you likely will end up introducing the other. Basically, inflation is the increase in the overall level of cost of things over a certain time period. For example, ten dollars in the year 1950 could buy you more food than ten dollars can in 2013. In relation to the concept of interest, the Federal Reserve will from time to time change the interest rate. By decreasing interest rates, the amount of money people spend increases because a low interest rate means borrowing credit is more desirable and easy. So, the more people spend, the more growth there is in the economy. However, if the growth of the economy happens too quickly and too excessively, negative effects can occur such as hyperinflation, resulting in a great loss of value in monetary currency. On the other end, if there is no inflation whatsoever, an economy can idle. Thus, it is the government’s job to try and keep a balanced inflation level, thus growth of the economy, adjusting slightly to either side when it is needed.

Default

Regarding financial matters, a default is when a person fails to pay the loan debt to which they are supposed to pay, by failing to fulfill the specific legal terms and conditions that were cited in the original debt agreement. For example, if a person does not make a pre-determined payment on their loan or else violates a condition of the loan agreement, these actions (or inaction) is called a default. Such behaviors leading to default may be due to the person simply not wanting to pay back the money or not being financially able to pay back the money. Default is not just in reference to loans, but also can occur with a mortgage or a bond.

To avoid possible default, one of the most obvious methods is to simply make sure you pay your loan payments on time. However, sometimes this is not so easy. If you find yourself unable to make payments, one option is to speak with your loan provider. They are often open to possibly reducing your debt or allowing for smaller payments to be made. Another method is to create a budget for yourself and try to stick to that budget, ensuring that you can meet your basic living expenses while still being able to pay your debts. One other method is to make sure you don’t gain more debt than you can reasonably afford. Most people find themselves in major debt simply because they spend money on goods and services that they really do not need in their lives.

Conclusion

Overall, the concept of interest has far reaching consequences, negative and positive, and for one’s personal finance as well as the economic growth of an entire nation. Also, interest is not just a theoretical concept with a mathematical formula practiced by economists, it has an intricate relationship with human psychology, and the consumer spending habits that can be dictated by a host of micro and macro level factors, everything from whether a nation is currently at war, or the specific mood of one individual on any given day, which precedes that person’s spending habits for the day.