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2. Question 2 (unbiased expectations theory). Assume the unbiased expecta- tions theory (chapter 2, L-G 2-7) is true throughout this question. (a) (1 point) The
2. Question 2 (unbiased expectations theory). Assume the unbiased expecta- tions theory (chapter 2, L-G 2-7) is true throughout this question. (a) (1 point) The current one-year Treasury bill rate is 5.2 percent and the ex- pected one-year rate 12 months from now is 5.8 percent. What should be the current rate for a two-year Treasury security? (b) (1 point) Suppose we observe the following rates: R = 8%, R2 = 10%. What is the one-year interest rate expected one year from now, E(271)? (c) (1 point) Suppose the yield curve is inverted (i.e., interest rates/yields of longer maturity Treasuries are lower than that of shorter maturity Treasuries). What does this imply about the expectation of the movement of short-term interest rates in the future? Will it go up, go down, or stay roughly unchanged? 3. Question 3 (still unbiased expectations theory, 1 point) Suppose that the current one-year interest rate is R = 2%. Assume that the expected one-year Treasury bond rates over the following three years (i.e., years 2, 3, and 4, respec- tively) as follows: E(271) 2%, E(3r1)=3%, E(4r1)=2.5% Suppose the unbiased expectations theory is true. Please solve for the current annual rates for two-, three-, and four-year maturity Treasuries. (In the book, the notation for these interest rates are, Ra, Ra, and R, respectively.)
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