4 Empirical work: Fisher equation and inflation expectations In this problem, you are asked to work with data on real and nominal interest and infer expected inflation from those data using the Fisher equation i=e+R. 3 Specifically, go to the Federal Reserve Bank of St.Louis database (FRED) https:/ / fred.stlouisfed.org/ and search for the following data for maturities n=5,10,20,30 years: 1. n-year Treasury Constant Maturity Rate (this is the nominal interest rate, the code is DGSn where n=5,10,20,30, e.g., DGS5 for the 5-year maturity). 2. n-year Treasury Inflation-Indexed Security (this is the real interest rate, the code is DFII n where n=5,10,20,30, e.g., DFII5 for the 5-year maturity). You can also drop the initial D for all the series to download monthly data instead of daily data. Both are fine, as long as you stay consistent. In principle, you can construct the graphs directly by using the graph-plotting functionality FRED website. As an alternative you can download the data and plot the required graphs using your preferred software, for example, in Excel. Probably the best thing to download the data is to enter DGS5 into the search box, which gives you the graph for the 5-year Treasury Constant Maturity Rate), then click Edit Graph, then Add Line, and keep adding the remaining 7 data series. Once you are done, click Download Data in Graph (above the graph), and store the Excel file. This way, you will obtain one sheet with all data aligned by the correct calendar dates. Question 4.1 Plot four graphs, one with each maturity, that will include the nominal interest rate, the real interest rate. Similarly, plot four graphs for the implied implied inflation expectations for each horizon, which you need to compute using the Fisher equation. Notice that the TIPS (Inflation-Indexed Rate) data for the 5 and 10 year maturities starts in 2003, the data for the 20 year maturity starts in 2004 and the data for the 30 year maturity only starts in 2010, so you will have a relatively short time series. Question 4.2 Look at the implied inflation expectations graphs across different maturities. During the recession of 2007-2009, were the financial markets concerned about the possibility of a deflation? At what horizon? Question 4.3 The years after the Great Recession were characterized by substantial attempts by the Federal Reserve to stimulate the economy using quantitative easing operations. During that period, were financial markets concerned about the possibility of high inflation in the future? Question 4.4 Were financial markets concerned about high inflation going forward after the coronavirus pandemic? 4 Question 4.5 When you look at inflation expectations at 20 or 30 year horizon, it seems they are substantially more stable than inflation expectations over the next five years. Why is it the case? 4 Empirical work: Fisher equation and inflation expectations In this problem, you are asked to work with data on real and nominal interest and infer expected inflation from those data using the Fisher equation i=e+R. 3 Specifically, go to the Federal Reserve Bank of St.Louis database (FRED) https:/ / fred.stlouisfed.org/ and search for the following data for maturities n=5,10,20,30 years: 1. n-year Treasury Constant Maturity Rate (this is the nominal interest rate, the code is DGSn where n=5,10,20,30, e.g., DGS5 for the 5-year maturity). 2. n-year Treasury Inflation-Indexed Security (this is the real interest rate, the code is DFII n where n=5,10,20,30, e.g., DFII5 for the 5-year maturity). You can also drop the initial D for all the series to download monthly data instead of daily data. Both are fine, as long as you stay consistent. In principle, you can construct the graphs directly by using the graph-plotting functionality FRED website. As an alternative you can download the data and plot the required graphs using your preferred software, for example, in Excel. Probably the best thing to download the data is to enter DGS5 into the search box, which gives you the graph for the 5-year Treasury Constant Maturity Rate), then click Edit Graph, then Add Line, and keep adding the remaining 7 data series. Once you are done, click Download Data in Graph (above the graph), and store the Excel file. This way, you will obtain one sheet with all data aligned by the correct calendar dates. Question 4.1 Plot four graphs, one with each maturity, that will include the nominal interest rate, the real interest rate. Similarly, plot four graphs for the implied implied inflation expectations for each horizon, which you need to compute using the Fisher equation. Notice that the TIPS (Inflation-Indexed Rate) data for the 5 and 10 year maturities starts in 2003, the data for the 20 year maturity starts in 2004 and the data for the 30 year maturity only starts in 2010, so you will have a relatively short time series. Question 4.2 Look at the implied inflation expectations graphs across different maturities. During the recession of 2007-2009, were the financial markets concerned about the possibility of a deflation? At what horizon? Question 4.3 The years after the Great Recession were characterized by substantial attempts by the Federal Reserve to stimulate the economy using quantitative easing operations. During that period, were financial markets concerned about the possibility of high inflation in the future? Question 4.4 Were financial markets concerned about high inflation going forward after the coronavirus pandemic? 4 Question 4.5 When you look at inflation expectations at 20 or 30 year horizon, it seems they are substantially more stable than inflation expectations over the next five years. Why is it the case