Making sense – and cents – of money-related words
Making “sense” of money-related words like budget, interest, compound interest, opportunity cost and delayed gratification can translate into valuable “cents” later in life.
Youth are often unfamiliar with the language of the financial world and may struggle to even understand the meaning of familiar words in the context of money management. Let’s look at five money words and define them in youth-friendly language.
A budget is simply a written plan for your money. It includes what money you expect to come in (income) and how you plan to save, spend and share that money (expenses). It is smart to make a budget because writing your plan on paper makes it more likely you will follow the plan you made.
Interest is the cost added when you borrow money. For example, Tomisha needs $100 to fix the flat tire on her car so she asks her father if she can borrow the money from him. He is willing to give her a loan, meaning she has to pay him back. However, he says that she must pay him $6 (6 percent) for the privilege of using his money. Tomisha will repay her father $106; the $6 is the “interest” that Tomisha pays him for the opportunity to use his money.
Compound interest is earning interest on interest. For example, Dexter deposits $1,000 in his local bank. The bank uses Dexter’s money to provide loans to other customers; the bank charges those customers interest just like Tomisha’s father charged her. The bank then pays Dexter a portion of that interest. The amount of interest Dexter has earned on his $1,000 is included on his monthly bank statement. The next month Dexter earns interest on his original deposit of $1,000 plus interest on the interest he earned last month. In this way, each month Dexter is earning money on his original deposit and on the interest he has earned. The amount of money in Dexter’s account increases faster when interest is paid on the previous interest earned (“compounded”).
Opportunity cost is what is given up when a choice is made. For example, since Janelle has limited money, if she buys snacks and a pop after school on Wednesday she can’t afford to go to a movie with friends on Saturday. The snacks and pop “cost” Janelle the “opportunity” to go to the movie. Janelle can’t afford to do both, so by choosing to spend her money one way, she has given up the opportunity to use that money in another way.
Delayed gratification is the willingness to give up something you want now in order to get something better in the future. For example, in the example above, if Janelle decided not to buy snacks and pop after school on Wednesday, she would have enough money to go to the movies on Saturday. In this case, Janelle has postponed (“delayed”) her enjoyment (“gratification”) until Saturday because she has decided the movie with friends is better.
Many words in the financial world can be confusing, however Michigan State University Extension believes it is important young people learn their meaning – and the earlier in their teen years the better. Making “sense” of these words in the teen years can translate into valuable “cents” later in life.
Michigan 4-H Youth Development offers resources and education to children and teens in money management concepts. Contact your local MSU Extension office to learn of the opportunities in your community.