Making money grow

Priya and Sameer each get Rs 500 for their birthday. Priya keeps hers in a piggy bank: a year later, she still has Rs 500. Sameer puts his in a scheme paying 8% interest a year: a year later, he has Rs 540. Both were careful, but only Sameer invested.

Investing means putting savings into assets so they keep their value and earn returns. Think of a mango tree: you plant it and wait, with no fruit for a while; then it gives fruit year after year.

Why not just keep cash? Because of inflation: prices rise over time, so the same money buys less. If a school bag costs Rs 1,000 today and inflation is 6% a year, it may cost about Rs 1,060 next year. Money that sits at home loses purchasing power (how much one rupee can buy). Investing can help money grow faster than inflation.

Cash does have one advantage: liquidity, how quickly something can be turned into cash without losing value. Cash is already cash; a house takes months to sell.

Compounding: returns that earn returns. With compounding, you earn on the money you put in (the principal) and also on all the interest it has already earned. Remember the sage who asked for one grain of rice on the first square of a chessboard, doubled on each next square? Small at first, then enormous.

Start early. Bhavisha and Dhruv each put away Rs 1,000 every year, at the year's end, earning 7% interest. Bhavisha starts at 25, Dhruv at 35. By 65, Bhavisha has Rs 1,99,635 and Dhruv only Rs 94,460: less than half, even though he saved for only ten fewer years. Bhavisha's early money had more years to grow, and its growth kept growing.

In Fig. 5.4 both curves start flat and become steep: early on, interest is earned on a small amount; later, on a big amount that already includes years of interest. (The book says Dhruv ends with 'about 40%' as much; its own figures give a little under half.)