7. Determinants of market interest rates

Some characteristics of the determinants of nominal interest rates are listed as follows. Identify the components (determinants) and the symbols associated with each characteristic:

Characteristic Component This is the rate on short-term U.S. Treasury securities, assuming there is no inflation. This is the rate for a riskless security that is exposed to changes in inflation. This is the premium added to the risk-free rate that reflects the average sustained increase in the general level of prices for goods and services expected over the security's entire life. This is the difference between the interest rate on a U.S. Treasury bond and a corporate bond of the same profile that is, the same maturity and marketability. This is the premium added to the equilibrium interest rate on a security that cannot be bought or sold quickly enough to prevent or minimize loss. As interest rates rise, bond prices fall, and as interest rates fall, bond prices rise. Because interest rate changes are uncertain, this premium is added as a compensation for this uncertainty. Consider the following case: James bought shares of a heavily traded stock listed on the New York Stock Exchange (NYSE), whereas Victoria bought stocks of a rural bank with a very small number of shareholders. Whose investment is more exposed to marketability risk? James's investment O Victoria's investment