The most powerful force in the universe is compound interest - Albert Einstein
Among the many similarities that New York and Mumbai have is the fact that both are island cities. Manhattan is one of the islands in the city of New York. The story goes that the Indians of Manhattan, in 1626, sold the island to a group of immigrants for $24 in beads and trinkets. These Indians over the years have been ridiculed a lot.
But, as Peter Lynch and John Rothschild point out in their 1989 book, One up on Wall Street, they seem to have got a better deal than the people who bought the island.
Assuming that the Indians were able to convert the beads and trinkets into cash, the $24 compounded at 8% interest, would have amounted to $30 trillion in 1989 (when the book was written). At the same point of time, as per the tax records, the entire real estate of Manhattan was worth only $28.1 billion.
Lynch and Rothschild further point out, "Give Manhattan the benefit of doubt: that $28.1 billion is the assessed value, and for all anybody knows it may be worth twice that on the open market. So, Manhattan is worth $56.2 billion. Either way, the Indians could be ahead by $29 trillion and change."
Even if the interest rate was lower by a couple of percentage points at 6%, the Indians would have ended up with $34.7 billion without having to spend money on the maintenance and upkeep of Manhattan.
Also, it is important not to touch the savings and let it compound. If an individual keeps withdrawing savings in between, this obviously leads to a lesser amount of money accumulating.
Further, the rate of return on the money that is compounding is really important. As is very clear in the Manhattan example, if we assume that the rate of return is 6% instead of the original 8%, the Indians would have ended up with only $34.1 billion which is small change in comparison to $30 trillion.
As the interest rates fell in the last few years, a lot of people have had to suffer because of this. Charitable trusts, poor pensioners, senior citizens and widows saw the value of their savings come down considerably, as their savings compounded at a lesser rate of interest.
Under license from www.3dsyndication.com
