It was Albert Einstein who identified compound interest as the eighth wonder of the world: ‘He or she who understands compound interest earns it and he or she who doesn’t pays it.’
Watching her parents spend years making repayments on a failed business brought the truth of this observation home to Nicole Pedersen-McKinnon and reinforced the importance of being disciplined about debt.
One of Australia’s best known financial commentators and educators, Pedersen-McKinnon writes about personal finance for a string of publications including The Sydney Morning Herald, talks money on Channel Seven and travels the country delivering her Smart Money Start multimedia financial literacy presentations to high school students.
“My parents inadvertently, unfortunately for them, demonstrated the destructive side of compound interest,” Pedersen-McKinnon says.
“They owned a coffee shop on the Redcliffe peninsular outside Brisbane, back in the 80s. They were ahead of their time because coffee wasn’t that popular back then – it would have gone gangbusters today. Our whole family was involved in trying to make it work – I used to bus tables when I was about 10, for the princely sum of about $5 a day.
“Unfortunately, it was too soon and things went south and my parents ended up spending five years repaying a loan with nothing to show for it.”
It was a defining moment for Pedersen-McKinnon and her brother – observing the discipline their parents employed to discharge the debt as fast as possible and the determination with which her folks rebuilt their financial position once free of its shackles.
“The quicker you get out of debt, the more interest you save,” Pedersen-McKinnon says.
“Mum and dad beat it and they beat it quickly and they saved a bunch of money by paying it off early. They worked really hard to do this and after the coffee shop was cleared they managed to get themselves back into a secure position.”
Pedersen-McKinnon’s strategy was to save up to buy shares and investment property, which showed her the positive power of compound interest – when you earn it, instead of pay it, as Einstein said.
“So, I kind of took that perfect example of Einstein’s theory of relative worth, as I call it, and made it my mantra.
“As an adult, I didn’t ever want to waste even a dollar of my money – I wanted to turn it into financial security for me and my family, do something more with it. I was always saving for a purpose, even if that purpose was travel, which provides a richness of experience I don’t regret.”
Discipline and debt aversion resulted in Pedersen-McKinnon owning her own home outright from a young age and eschewing all forms of credit card and consumer debt. She restricts borrowing to investments she feels will generate a return.
It’s advice she shares with others, particularly young people who are preparing to assume responsibility for their own financial affairs as they enter adulthood.
This is a series from ANZ Women asking leading Australians to share important financial advice that has changed their life.