HW 3

Terms:
1. cash flows: Dòng tiền

2. consol or perpetuity: Dòng tiền đều vô hạn hay dòng niên kim vĩnh cửu
3. coupon bond: trái phiếu coupon
4. Coupon rate: Lãi suất coupon
5. Current yield: Lợi suất hiện hành
6. Discount bond (zero-coupon bond): Trái phiếu chiết khấu
7. Face value (par value): Mệnh giá
8. fixed-payment loan (fully amortized loan): cho vay hoàn trả cố định
9. interest-rate risk: rủi ro lãi suất
10. nominal interest rate: lãi suất danh nghĩa
11. present value (present discounted value): giá trị hiện tại
12. Rate of capital gain: lãi về vốn
13. Real interest rate: lãi suất thực tế
14. Real terms: điều kiện thực tế
15. return (rate of return): tỷ suất sinh lợi
16. simple loan: Khoản vay đơn
17. yield to maturity: Lợi suất đáo hạn
Question:
1. Interest Rate Movements Explain why interest rates changed as they did over
the past year.
 The Loanable Funds Theory suggests that the market interest rate is
determined by the factors that control supply of and demand for loanable
funds. There is an inverse relationship between the interest rate and the
quantity of loanable funds demanded.
2. Interest Elasticity Explain what is meant by interest elasticity. Would you
expect the federal government’s demand for loanable funds to be more or less
interest-elastic than household demand for loanable funds? Why?
 Interest elasticity of supply represents a change in the quantity of loanable
funds supplied in response to a change in interest rates. Interest elasticity of
demand represents a change in the quantity of loanable funds demanded in
response to a change in interest rates.
-The federal government demand for loanable funds should be less interest
elastic than the consumer demand for loanable funds, because the
government's planned borrowings will likely occur regardless of the interest
rate. Conversely, the quantity of loanable funds by consumers is more
responsive to the interest rate level.
3. Impact of Government Spending If the federal government planned to expand
the space program, how might this affect interest rates?
 An expanded space program would (a) force the federal government to
increase its budget deficit, (b) possibly force any firms involved in
facilitating the program to borrow more funds. Consequently, there is a
greater demand for loanable funds. The additional spending could cause
higher income and additional saving. Yet, this impact is not likely to be as
great. The likely overall impact would therefore be upward pressure on
interest rates.
4. Impact of a Recession. Explain why interest rates tend to decrease during
recessionary periods. Review historical interest rates to determine how they
reacted to recessionary periods. Explain this reaction?
 During a recession, firms and consumers reduce their amount of
borrowing. The demand for loanable funds decreases and interest rates
decrease as a result.
5. Impact of the Economy. Explain how the expected interest rate in one year
depends on your expectation of economic growth and inflation?
 The interest rate in the future should increase if economic growth and
inflation are expected to rise, or decrease if economic growth and inflation
are expected to decline.
6. Impact of the Money Supply. Should increasing money supply growth place
upward or downward pressure on interest rates?
 If one believes that higher money supply growth will not cause inflationary
expectations, the additional supply of funds places downward pressure on
interest rates. However, if one believes that inflation expectations do erupt
as a result, demand for loanable funds will also increase, and interest rates
could increase (if the increase in demand more than offsets the increase in
supply).
7. Impact of Exchange Rates on Interest Rates Assume that if the U.S. dollar
strengthens it can place downward pressure on U.S. inflation. Based on this
information, how might expectations of a strong dollar affect the demand for
loanable funds in the United States and U.S. interest rates? Is there any reason
to think that expectations of a strong dollar could also affect the supply of
loanable funds? Explain.
 As a strong U.S. dollar dampens U.S. inflation, it can reduce the

demand for loanable funds, and therefore reduce interest rates. The
expectations of a strong dollar could also increase the supply of funds
because it may encourage saving (there is less concern to purchase
goods before prices rise when inflationary expectations are reduced).
In addition, foreign investors may invest more funds in the United
States if they expect the dollar to strengthen, because that could
increase their return on investment.
8. Nominal versus Real Interest Rate What is the difference between the nominal
interest rate and the real interest rate? What is the logic behind the implied
positive relationship between expected inflation and nominal interest rates?
 The nominal interest rate is the quoted interest rate, while the real
interest rate is defined as the nominal interest rate minus the expected
rate of inflation. The real interest rate represents the recent nominal
interest rate minus the recent inflation rate. Investors require a
positive real return, which suggests that they will only invest funds if
the nominal interest rate is expected to exceed inflation. In this way,
the purchasing power of invested funds increases over time. As
inflation rises, nominal interest rates should rise as well since
investors would require a nominal return that exceeds the inflation
rate
9. Real Interest Rate Estimate the real interest rate over the last year. If financial
market participants overestimate inflation in a particular period, will real
interest rates be relatively high or low? Explain.
 If inflation is overestimated, the real interest rate will be relatively

high. Investors had required a relatively high nominal interest rate
because they expected inflation to be high (according to the Fisher
effect).
10. Forecasting Interest Rates Why do forecasts of interest rates differ among
experts?
 Various factors may influence interest rates, and changes in these

factors will affect interest rate movements. Experts disagree about
how various factors will change. They also disagree about the specific
influence these factors have on interest rates
11. Impact of Stock Market Crises: During periods when investors suddenly
become fearful that stocks are overvalued, they dump their stocks and the stock
market experiences a major decline. During these periods, interest rates also
tend to decline. Use the loanable funds framework to explain how the massive
selling of stocks leads to lower interest rates.
 When investors shift funds out of stocks, they move it into money
market securities, causing an increase in the supply of loanable funds,
and lower interest rates.
12. Impact of Expected Inflation: How might expectations of higher oil prices
affect the demand for loanable funds, the supply of loanable funds, and interest
rates in the United States? Will the interest rates of other countries be affected
in the same way? Explain.
 The expectations of higher oil prices will cause concern about the
possible increase in inflation. Since higher inflation can increase
interest rates, it will cause an expectation of higher interest rates in
the U.S. Firms and government agencies may borrow more funds now
before prices increase and before interest rates increase. Consumers
may use their savings now to buy products before the prices increase.
Therefore, the demand for loanable funds should increase, the supply
of loanable funds should decrease, and interest rates should increase
in the U.S. The impact of higher global oil prices in other countries is
not necessarily the same. If the country produces its own oil, it can set
the oil prices in its country. If it can prevent high oil prices in its
country, then the prices of products (gasoline) and services
(transportation) may not be affected. Therefore, interest rates may not
be affected.
13. Global Interaction of Interest Rates: Why might you expect interest rate
movements of various industrialized countries to be more highly correlated in recent
years than in earlier years?
 Interest rates among countries are expected to be more highly

correlated in recent years because financial markets are more
geographically integrated. More international financial flows will
occur to capitalize on higher interest rates in foreign countries, which
affects the supply and demand conditions in each market. As funds
leave a country with low interest rates, this places upward pressure on
that country's interest rates. The international flow of funds caused
this type of reaction.

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Terms:

1. cash flows: Dòng tiền

 As a strong U.S. dollar dampens U.S. inflation, it can reduce the

 If inflation is overestimated, the real interest rate will be relatively

 Various factors may influence interest rates, and changes in these

 Interest rates among countries are expected to be more highly

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