Exam 5: How Do Risk and Term Structure Affect Interest Rates?

If the expected path of one-year interest rates over the next four years is 5 percent,4 percent,2 percent,and 1 percent,then the pure expectations theory predicts that today's interest rate on the four-year bond is

The risk premium on corporate bonds becomes smaller as the liquidity of the bonds falls.

When yield curves are downward-sloping,long-term interest rates are above short-term interest rates.

________ bonds are the most liquid of all long-term bonds.

(I)An increase in default risk on corporate bonds shifts the demand curve for corporate bonds to the right. (II)An increase in default risk on corporate bonds shifts the demand curve for Treasury bonds to the left.

Risk,liquidity,and income tax rules all play a role in determining the risk structure of interest rates.

An increase in the marginal tax rate would likely increase the demand for municipal bonds,and decrease the demand for U.S.government bonds.

(I)If a corporation suffers big losses,the demand for its bonds will rise because of the higher interest rates the firm must pay. (II)The spread between the interest rates on bonds with default risk and default-free bonds is called the risk premium.

A positive liquidity premium indicates that investors prefer long-term bonds over short-term bonds.

The expectations theory is able to explain why yield curves are usually upward-sloping.

If municipal bonds were to lose their tax-free status,then the demand for Treasury bonds would shift ________,and the interest rate on Treasury bonds would ________.

The liquidity premium theory of the term structure

As a result of the subprime collapse,the demand for low -quality corporate bonds ________,the demand for high-quality Treasury bonds ________,and the risk spread ________.

Typically,yield curves are

According to the liquidity premium theory of the term structure,

Corporate bonds are not as liquid as government bonds because

Holding everything else constant,if a corporation begins to suffer large losses,then the default risk on its bonds will ________ and the expected return on those bonds will ________.

What is meant by the risk structure of interest rates?

The Bush tax cut passed in 2001 reduces the top income tax bracket from 39 percent to 35 percent over the next ten years.As a result of this tax cut,the demand for municipal bonds should shift to the ________ and the interest rate on municipal bonds should ________.

Discuss what is shown by a yield curve.