Chapter 5: Behavior of Interest Rates

Question 1

Credit spread

Answer 1

the difference in yield between bonds of a similar maturity but with different credit quality

Question 2

Quantitative tightening

Answer 2

tightening money supply

Question 3

Inverted yield curve

Answer 3

when long-term rates are less than short-term lending rates

Question 4

Quantitative easing

Answer 4

easing money supply

Question 5

liquidity effect

Answer 5

how increasing and decreasing money supply influences interest rates

Question 6

determinants of asset demand

Answer 6

wealth, expected return, risk, liquidity

Question 7

wealth

Answer 7

the total resources owned by the individual, including all assets
when wealth increases, quantity demanded of an asset increases

Question 8

expected return

Answer 8

the return expected over the next period on one asset relative to alternative assets
when expected return increase, quantity demanded of an asset increases

Question 9

risk

Answer 9

the degree of uncertainty associated with the return on one asset relative to alternative assets
when risk increases, quantity demanded will decreases

Question 10

liquidity

Answer 10

the ease and speed with which an asset can be turned into cash relative to alternative assets
when liquidity increases, quantity demanded increases

Question 11

theory of portfolio choice

Answer 11

tells us how much of an asset people will want to hold in their portfolios.

Question 12

shifts in demand for bonds: wealth

Answer 12

expansion: wealth increases, demand curve shifts right
recession: wealth decreases, demand curve shift left

Question 13

shifts in demand for bonds: expected interest rate

Answer 13

expected interest rate increases, demand curve shifts left

Question 14

shifts in demand for bonds: expected inflation

Answer 14

expected inflation increases, demand curve shifts left

Question 15

shifts in demand for bonds: riskiness of bonds relative to other assets

Answer 15

expected riskiness increases, demand curve shifts left

Question 16

shifts in demand for bonds: liquidity

Answer 16

are bonds become more liquid, demand curve shifts right

Question 17

what causes shifts in supply of bonds?

Answer 17

expected profitability of investment opportunities, expected inflation, government budget deficits

Question 18

shifts in supply of bonds: profitability of investments

Answer 18

as profitability increases, supply curve shifts right

Question 19

shifts in supply of bonds: expected inflation

Answer 19

expected inflation increases, supply curve shifts right

Question 20

shifts in supply of bonds: government deficit

Answer 20

government deficit increases, supply curve shifts right

Question 21

what causes the shifts in demand for money

Answer 21

income effect, price-level effect

Question 22

income effect

Answer 22

• as supply of money increases, income increases, and interest rates increase in the long term
• or, increase in income causes demand of money to increase and shifts demand of money to the right

Question 23

price-level effect

Answer 23

• as supply of money increases, price levels increase, and interest rates increase in the long term
• or, increase in price level causes demand of money to increase and shifts demand of money to the right

Question 24

shifts in the supply of money

Answer 24

an increases in money supply caused by the Federal Reserve will shift the supply curve for money to the right

Question 25

What happens to interest rates when an income is rising during expansion?

Answer 25

interest will rise

Question 26

what happens to interest rates when the price level increases?

Answer 26

interest rises

Question 27

what happens to interest when the supply of money increases

Answer 27

interest rates will decline

Question 28

the Fisher Effect

Answer 28

when inflation rises, interest rates will rise

Question 29

if there is an excess in the supply of money, what happens to the interest rate and bonds?

Answer 29

Individuals will buy bonds, causing interest rate to fall

Question 30

when the interest rate on a bond is above the equilibrium interest rate, in the bond market, what happens to the interest rate?

Answer 30

There will be an excess demand which causes interest rates to fall

Question 31

liquidity preference framework

Answer 31

the equilibrium interest rate in terms of the supply/demand of money rather than of bonds
- i.e. an excess supply of bonds implies excess demand for money

Question 32

what are the 3 components of net interest margin?

Answer 32

funding spread, interest rate risk spread, and credit spread

Question 33

Expected-inflation effect

Answer 33

as supply of money increases, expected inflation rate also increases causing interest rates to increase in LT

Question 34

is the liquidity effect long term or short term

Answer 34

short term

Question 35

what are the long term effects of increasing the money supply?

Answer 35

income effect, price level effect, expected inflation effect

Question 36

in the liquidity preference framework, what are the two ways to store wealth?

Answer 36

money and bonds