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Assume that the liquidity premium theory accurately describes the term structure of interest rates, and that the term premium on an n-year bond is given
Assume that the liquidity premium theory accurately describes the term structure of interest rates, and that the term premium on an n-year bond is given by the equation in problem 1 above. We observe the following term structure of interest rates on 1-year through 5-year bonds:
a) 5%, 5%, 5%, 5%, 5%
b) 6%, 7%, 8%, 9%, 10%
c) 14%, 10%, 6%, 5%, 5%
In each case, calculate and graph the markets prediction of future one-year spot interest rates at times t+1 through t+4.
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