1. What is being depicted in a yield curve? Which types of nancial instruments are typically shown in a yield curve? Go to https://www.bloomberg.com/markets/ratesbonds/govemmentbonds/us. Use the yield data in the rst table to plot a US Treasuries yield curve below or on your own paper. Does the curve look normal, at, or inverted? 2.5 Yield 1.5 6m 2y 5y 10y Maturity 30y 3. We discussed changes in the yield curve that result from changes in the term premium, expectations of future interest rates, and monetary policy. In the table below, state whether each situation is related to the term premium (TP), expectations of interest rates, or monetary policy; whether you expect the given situation to result in a change to short-term or long-term yields; and whether it will make the yield curve steeper (more normal) or flatter (flat or inverted): Situation TP, Expectations, Steeper or or Policy? ST or LT Yields? Flatter? Interest rates are expected to increase due to strong economic growth. The Federal Reserve pursues a higher target of the federal funds rate. Perceived long-term risk increases due to worries about high inflation. Interest rates are expected to decrease due to weakening economic conditions. The Federal Reserve pursues a lower target of the federal funds rate. Perceived long-term risk decreases as inflation is expected to stabilize. 4. Go to http://research.stlouisfed.org/publications/ and go to Economic Synopses. Find publication 2019, No. 9, "Predicting the Yield Curve Inversions That Predict Recessions: Part a. What does an inverted yield curve signal that makes it useful as a predictor of recessions? b. What is a "leading indicator"? The article looks at two other variables that might be considered leading indicators of recessions - what are they? c. Do either of the two variables that you identified in part b seem to be better predictors of recessions than an inverted yield curve? Explain.5. The following table gives hypothetical yields on various debt instruments: Instrument Yield 5-year US Treasury Bond 1.50% 5-year Corporate Investment-Grade Bond 1.85% 5-year Corporate High-Yield Bond 3.45% 10-year US Treasury Bond 1.75% 10-year Corporate High-Yield Bond 5.60% Calculate the risk premium for: a. a 5-year corporate investment-grade bond b. a 5-year corporate high-yield bond c. a 10-year corporate high-yield bond 6. Go to https://fred.stlouisfed.org/ and click on the "Category" link under the search box. Go to "Money, Banking, & Finance" and then "Interest Rates". Now click on "Corporate Bonds" and find the series "ICE BofA US High Yield Option-Adjusted Spread". a. This series represents a risk premium on below investment-grade corporate debt instruments. In calculating a risk premium, what type of risk is being evaluated? To what type of debt instrument is the risk compared? b. Click on "Max" for the graph's range and compare the behavior of this series during the 2001 recession and the 2008-2009 recession. What does your comparison suggest about the perception of risk that you identified in part a between the two recessions? c. Describe what happened to the risk premium between late-February and late-March of 2020. Now go to http://research.stlouisfed.org/publications/ and click on Economic Synopses. Find publication 2020, No. 7, named "COVID-19's Shock on Firms' Liquidity and Bankruptcy: Evidence from the Great Recession". Based on the conclusions of that article, what issues might explain the pattern of the risk premium during the month of March? 7. What is a nominal interest rate? What is a real interest rate? Why are real interest rates important for economic decision-making?8. A bank makes a loan at a 4.0% nominal interest rate to a business. For each of the following scenarios, calculated the expected and actual real interest rates on the loan and state whether the bank is better-off, worse-off, or just as well-off as it expected. a. Inflation was expected to be 2%, but actual inflation was 1% b. Inflation was expected to be 1%, but actual inflation was 3% c. Inflation was expected to be 2% and actual inflation was 2% 9. Below is a graph of the difference between a 1-year government bond yield and the annual inflation rate. measured real interest rate between 1980 and 2020. If we use this as representation of general real interest rates in the economy, what has been the overall trend in real rates over the past 40 years? If you are a saver, is this trend O good or bad for you? If you are a borrower, is the trend good or bad? 1980 1985 1990 1995 2000 2005 2010 2015 2020 10. For an increase in overall interest rates in the economy, show in the table whether each component of aggregate spending is expected to increase, decrease, or not change. Also mark/check whether any increase or decrease is due to a change in the cost of borrowing, the relative attractiveness of saving, or both. Change due to... 1, J, or Cost of borrowing? Attractiveness of savings? C H G X