FIN303 Exam 2

The real risk-free rate of interest, k*, is expected to remain constant at 3 percent. Inflation is expected to be 3 percent for next year and then 2 percent a year thereafter. The maturity risk premium is 0. Given the information, which of the following statements is most correct? a. The yield curve for U.S. Treasury securities is downward sloping. b. A 5-year corporate bond has the same yield as a 7-year Treasury security. c. A 5-year corporate bond has a higher yield than a 7-year Treasury security. d. All of the statements above are correct.

A. The yield curve for US treasury securities is downward sloping

If the yield curve is downward sloping, what is the yield to maturity on a 10-year treasury coupon bond, relative to that on a 1-year T-bond? a. The yield on the 10-year bond is less than the yield on a 1-year bond. b. The yield on a 10-year bond will always be higher than the yield on a 1-year bond because of maturity risk premiums. c. It is impossible to tell without knowing the coupon rates of the bonds. d. The yields on the two bonds are equal.

A. The yield on the 10-year bond is less than the 1-year T-bond. Downward slope = short term rates are always higher than long term rates.

Which of the following statements is most correct? a. If companies have fewer productive opportunities, interest rates are likely to increase. b. If individuals increase their savings rate, interest rates are likely to increase. c. If expected inflation increases, interest rates are likely to increase. d. All of the above statements are correct.

C. If expected inflation increases, interest rates are likely to increase.