1. If the interest rate on a one-year bond selling today is 3%, and the interest rate on a twoyear bond selling today is 4%, and the liquidity on a two-year bond is 0.20%, what is expected interest rate on a one- year bond selling today? Show your work. 2. Use a graph of the bond market to show what happens to the price of bonds if the economy moves out of a recession and into an expansion. 3. Suppose that people expect the economy to move out of a recession and into an expansion one year from now. Does this make expected future short-term rates higher or lower than otherwise? (hint: consider your answer to question 2) 4. Other things the same and according to expectations theory, what affect, if any, does this effect on expected future short-term rates have on current long-term rates? Explain. (hint: look at the expression for the interest rate on a two year bond with a liquidity premium which you used to solve question