Assume that the real risk-free rate of return, r*, is 3 percent, and it will remain at that level far into the future.Also assume that maturity risk premiums on Treasury bonds increase from 0 percent for bonds that mature in one year or less to a maximum of 2 percent, and Maturity Risk Premium (MRP) increases by 0.2 percent for each year to maturity that is greater than one year - that is, MRP equals 0.2 percent for A two-year bond, 0.4 percent for a three-year bond, and so forth.

The following are the expected inflation rates for the next five years:

Year Inflation Rate 1

3.0% 2 5.0 3 4.0 4 8.0 5 3.0

1. What is the average expected inflation rate for one-, two-, three-, four-, and five-year bonds?
2. What should be the MRP for one-, two-, three-, four-, and five-year bonds?
3. Compute the interest rate for one-, two-, three-, four-, and five-year bonds.
4. If inflation is expected to equal 2 percent every year after Year 5, what should be the interest rate for 10- and 20-yearbonds?