Compound Interest: Friend or Foe?

TL;DR: Both. It depends entirely which side you are standing on.

Introduction

Compound interest is one of those deceptively simple ideas that quietly shapes your entire financial life. It is the reason long term saving works so well and the reason debt quietly empties your pockets while you are not looking. The same mechanism. Two very different outcomes.

Why Compound Interest Is Your Best Friend

If you want long term wealth, compound interest is the engine that gets you there.

The basic idea:
Your interest earns interest. Then that interest earns interest. Then that interest earns interest.

Let's say you have £1,000 in a savings account that has 5% interest every year. You wait 12 months, and your patience is rewarded with £50. That's £50 for free, just for waiting. The next year you might think you receive another £50, but in effect, you would receive £52.50 because you gain interest on the £1,050, not the original £1,000. So in effect, you end up with £1,102.50.

Over years, the curve stops looking like a line and starts looking like a rocket launch.

Time is your biggest lever

The longer you save, the more powerful compounding becomes. A small pot becomes a bigger pot, and a bigger pot compounds even faster. This is why starting early, even with tiny monthly amounts, matters far more than most people expect.

A simple example

Imagine the following:

• Initial deposit: £1,000
• Monthly contribution: £100
• Interest rate: 5% per year, compounded monthly
• Time: 10 years

With compound interest:
Your pot grows to roughly £16,470.

Without interest:
You would have £13,000.

That is £3,470 created purely by your interest earning interest.

A larger scale example

Now look at a more serious long term saving scenario:

• Initial deposit: £20,000
• Monthly contribution: £500
• Interest rate: 6% per year, compounded monthly
• Time: 25 years

With compound interest:
Your pot grows to around £394,000.

Without interest:
You would have saved only £170,000.

Compound interest contributes £224,000 of the final value.
In other words, more than half of your final pot comes from compounding rather than your own contributions.

Try it yourself

Use the calculator to test your own numbers:

Experiment with different interest rates, deposits and time frames. The longer the period, the more dramatic the curve becomes.

So Why Is This Not Always Good News

Because the same force that helps your savings grow is the same force that makes your debt expensive.

Compound interest works against you

• Credit cards.
• Loans.
• Overdrafts.
• Mortgages, which usually calculate interest daily and add it monthly.

If you carry a balance, the lender earns interest on the interest you owed yesterday. Whether it compounds daily or monthly, the effect is the same. Your debt grows faster than you expect unless you actively pay it down.

This is how banks make money

If you have ever paid a credit card and seen the balance barely move, that is compounding being used against you.

The system works quietly in the background:

• Savers benefit
• Borrowers lose
• Banks sit in the middle and profit from both sides

Conclusion

Compound interest is not good or bad, it is simply powerful.

Used correctly, it builds long term wealth with almost no extra effort.
Used carelessly, it keeps you in debt for far longer than you expect.

The goal is simple, put yourself on the right side of it. Grow from compounding instead of paying for it.

The key is to start small and build habits that create sustainable long-term wealth. It’s not an overnight money-maker, but it is a key principle of becoming financially secure.