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Question(s) / Instruction(s):

CHAPTER 5, Numerical Exercise 16

 

16. In Table 5.5 show the derivation of each of the following entries:

a.)  The interest rate of 5.1 percent on a bond sold in 2011 that matures in 7 years.

b.)  The interest rate of 4.4 percent on a bond sold in 2014 that matures in 5 years.

c.)   The interest rate of 4.5 percent on a bond sold in 2018 that matures in 2 years.

Review pp. 93 and 94 for explanation of how interest rates on long-term bonds are calculated using the average interest rate on one-year bonds over the same period of time.

See also the Note at the bottom of Table 5.5 on p. 94.

 

CHAPTER 6, Numerical Exercise 13

13. Suppose that the Fisher hypothesis holds for an economy that has an expected real interest rate of 2 percent. For each of the expected inflation rates of 0, 2, 4, 6 and 8 percent, calculate the nominal interest rate and the after-tax expected real interest rate if the tax rate is 30 percent.

Use formula 7 on p. 111 for calculating the nominal interest rate.

FORMULA 7, page 111

i = r + πe

 

Use formula 12 for calculating after-tax interest rate on p. 127.

FORMULA 12, page 127

Ra = [(1 – t) * i] – πe

 

 


TIME TO MATURITY
(years, interest rates in percent)
DATE 1 2 3 4 5 6 7 8 9 10
2011 5.0 5.5 6.0 6.0 5.8 5.5 5.1 5.0 5.0 5.1
2012 6.0 6.5 6.3 6.0 5.6 5.2 5.0 5.0 5.1
2013 7.0 6.5 6.0 5.5 5.0 4.8 4.9 5.0

2014 6.0 5.5 5.0 4.5 4.4 4.5 4.7


2015 5.0 4.5 4.0 4.0 4.2 4.5



2016 4.0 3.5 3.7 4.0 4.4




2017 3.0 3.5 4.0 4.5





2018 4.0 4.5 5.0






2019 5.0 5.5







2020 6.0








 

Note: In this table, the interest rates on one-year bonds sold in the years 2011 to 2012 are given, as shown in the column which the time to maturity is one year. The equilibrium interest rates on longer-term bonds are calculated from the one-year interest rates using the expectations theory of the term structure.

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