1.) Suppose that the Federal Reserve is concerned about deflation in the future, so they decrease short-term interest rates. How will this affect long-term rates and the yield curve? What does the slope of the yield curve reveal about the effectiveness of the Fed's policy? Explain in the context of the Liquidity Premium Theory.
2.) Assuming the Expectations Hypothesis is correct, and given the following information:
The current four-year interest rate is 5.0%
The current one-year interest rate is 3.0%
The expected one-year rate for one year from now is 5.0%
The expected one-year rate for two years from now is 6.5%
What is the expected one-year rate for three years from now? Explain.
3.) In the 2010, the U.S. government ran a budget deficit. It issued a large quantity of bonds. How would this program affect the bond market price, yield, and quantity of bonds? How might it affect the liquidity of government bonds?
4.)Over the past few years, the U.S. economy experienced a dramatic decrease in interest rates quoted on U.S. Treasury debt, business loans, and mortgages. At the same time the inflation rate gradually declined more than expected. What happened to ex ante versus ex post real interest rates during this period? What is the Fisher Equation? Write down the equation and identify the components. Use the Fisher equation to support your answer.