The Wall Street Journal reported interest rates of 4.334 percent, 4.286 percent, 4.151 percent,

4.094 percent, and 4.032 percent for three-year, four-year, five-year, six-year, and seven-year

Treasury notes, respectively. Assume that the liquidity (maturity) premium on an N-year

security is (N-1)*0.035%.

a . Calculate (carry at least 4 decimals) the expected short-term rates in Years 4 & 7,

respectively, according to the Liquidity Premium Theory of interest rates.

b. Given that the default risk premium is 1.2% for investment grade bonds, and 3.8% for

speculative (non-investment) grade bonds. To the nearest basis point, calculate the

interest rates on the 4-year and 7- year B-rated bonds, respectively, based on your

answers for part a.