Money and Financial Institutions

Econ 331: Money and Financial Institutions Assignment #3Spring 2021 This assignment is due via Blackboard (not via email) at 12:00pm (noon) on Friday February 19. For all questions, the process of how you arrive at an answer is as important as the answer itself. For full credit, you are therefore required to show all steps and work, clearly label graphs, and fully explain any answers that ask for an explanation. You can type your answers or write them by hand and scan them using the camera on your phone/tablet. In either case, submit the file as a single pdf document. If you type your answers, it is important to save as a pdf before submitting – equations often get jumbled between computers. 1. The demand curve and supply curve for one-year discount bonds with a face value of $1,000 arerepresented by the following equations. “: = −0.6 ∗ + 1140 9: = + 700 What is the equilibrium interest rate?2. Use the graphical bond market model to answer the following questions. In each case, support your answer with a figure, and explain your answer. Label ach figure clearly.a. What is the effect of an increase in wealth on interest rates? b. What is the effect of a decrease in expected inflation on interest rates? c. Why does an expectation of an upcoming interest rate hike by the Federal Reserve causebond prices to fall? 3. In 2010 and 2011, the government of Greece risked defaulting on its debt due to a severe budgetcrisis. Set up one bond market graph for U.S. Treasury bonds, and a second bond market graph for comparable-maturity Greek debt. Use these graphs to show the effects on (a) the interest rate on U.S. Treasury bonds, and (b) on the interest rate on Greek bonds. Explain your answer. (Clearly label your figures: first set up the initial equilibrium, and then clearly label all shifts).4. In this question, you will look at the spread between riskless and risky bonds over time bycomparing the riskless rate on 10-year Treasury bonds to (riskier) 10-year Baa corporate bonds using FRED.a. Go to the FRED website, and search for the “10-year Treasury constant maturity rate”. Select monthly data. Go to edit graph, and add a line describing “Moody’s 10-year seasoned Baa corporate bond yield”. Change the dates, so you’re looking at 2002 to the present. Download the graph and submit with your assignment.b. Let’s look at the same data a different way. Specifically, look at the credit spread (the yield on Baa bonds relative to Treasuries). In a new window, search for “Moody’s seasoned Baa corporate bond yield relative to yield on 10-year Treasury constant maturity”. Again, use monthly data and show 2002 to the present.c. Describe your graph (2-3 sentences). In your description, address: i. The relative levels of the two series over time.ii. What happened to the credit spread (the return on riskier bonds – i.e. Baa corporate bonds – relative to less risky securities – i.e. Treasuries) during the crisis.

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