M&B3 3rd Edition by Dean Croushore

Exercise 6

In the market for debt securities that promise to pay $1,500 in one year, the quantity demanded is

where b is the price of a security, W t is a variable equal to 1 if the economy is in an expansion today and 0 if the economy is in a recession today, and W t _1 is a variable equal to 1 if the economy is expected to be in an expansion next year and 0 if the economy is expected to be in a recession next year. The quantity supplied of the security is

Calculate the equilibrium price and quantity of the security for each of the following situations:
a The economy is in recession today and is expected to remain in recession next year.
b The economy is in an expansion today and is expected to be in recession next year.
c The economy is in recession today and is expected to be in an expansion next year.
d The economy is in expansion today and is expected to be in an expansion next year.