Albert Einstein allegedly called compound interest the eighth wonder of the world. Whether or not he actually said it, the sentiment is right. Compound interest is one of the most powerful forces in personal finance, and one of the least understood.
The good news: you don't need to understand the maths to benefit from it. You just need to start.
What is compound interest?
Simple interest is when you earn a return on your original investment. Compound interest is when you earn a return on your original investment plus all the returns you've already earned.
In other words: your returns generate their own returns. And those returns generate returns. Year after year, the pile grows faster and faster, not because you're adding more, but because the base it's growing from keeps getting bigger.
Here's a concrete example. Say you invest $10,000 at 7% per year:
- After Year 1: $10,700
- After Year 5: $14,026
- After Year 10: $19,672
- After Year 20: $38,697
- After Year 30: $76,123
You didn't add a single extra dollar after Year 1. But after 30 years, your $10,000 has become $76,123, because each year's growth became part of the base for the next year's growth.
The longer money is invested, the harder it works. Time is the one ingredient in compounding that can't be bought back once it's gone.
Why starting early matters so much more than you'd think
This is where it gets genuinely interesting, and where most people underestimate the difference a few years makes.
Compare two people, let's call them Aroha and Ben, both investing $300 per month into a growth KiwiSaver fund with an assumed 7% average return:
Aroha starts at 22
Total contributed: $154,800
Ben starts at 32
Total contributed: $118,800
Aroha contributed $36,000 more than Ben over her lifetime. But she ends up with roughly $566,000 more. That's not a rounding error, it's over half a million dollars of difference from starting ten years earlier.
The extra money didn't come from Aroha working harder or earning more. It came from time. Ten more years of compounding, with growth building on growth, building on growth.
Illustrative only. Assumes 7% average annual return. Actual returns vary. Not financial advice.
What this means for your KiwiSaver
KiwiSaver is essentially a compounding machine, and most New Zealanders are already using it without thinking about it this way.
Every month, you put in a contribution. Your employer matches part of it. The government contributes up to $521 per year. And all of that is invested in a fund that (over time, in a growth fund) earns returns. Those returns are reinvested. The whole pile compounds.
The two things you can control that matter most:
- Your fund type, being in a growth fund (appropriate for most working-age New Zealanders) instead of a conservative fund can mean hundreds of thousands of dollars more by retirement, for the exact same contributions
- Your contribution rate, even a small increase from 3% to 4% compounds significantly over a 30+ year career
The one thing you can't control? Time. You can't go back and start ten years earlier. But you can make sure that from today, your money is in the right fund and working as hard as it possibly can.
A KiwiSaver review takes 30 minutes and costs nothing. It's the kind of thing that's easy to put off, but the compounding maths shows exactly why you shouldn't.
The cost of waiting
People often say "I'll sort my KiwiSaver later, when I have more to put in." This is the most expensive financial mistake most New Zealanders make.
Every year you stay in a conservative fund instead of a growth fund, you're leaving returns on the table that will compound for the rest of your career. Every year you delay reviewing your contribution rate, you miss another year of employer matching and government top-ups feeding into the compounding engine.
The maths is unambiguous: in investing, time beats everything. A smaller amount invested earlier will almost always outperform a larger amount invested later. And the gap grows every year you wait.
The best time to sort your KiwiSaver was when you started working. The second best time is right now.