Interest Rates - Interest Rates Chapter 6 6-1 Learning...

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Interest Rates Chapter 6 6-1
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Learning Objectives 7-2 Cost of Money and Interest Rate Levels Determinants of Interest Rates The Term Structure and Yield Curves Using Yield Curves to Estimate Future Interest Rates
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What four factors affect the level of interest rates? Production opportunities Time preferences for consumption Risk Expected inflation 6-3
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“Nominal” vs. “Real” Rates r = represents any nominal rate r* = represents the “real” risk-free rate of interest. Like a T-bill rate, if there was no inflation. Typically ranges from 1% to 5% per year. r RF = represents the rate of interest on Treasury securities. 6-4
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Determinants of Interest Rates r = r* + IP + DRP + LP + MRP r = required return on a debt security r* = real risk-free rate of interest IP = inflation premium DRP = default risk premium LP = liquidity premium MRP = maturity risk premium 6-5
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Premiums Added to r* for Different Types of Debt IP MRP DRP LP S-T Treasury L-T Treasury S-T Corporate L-T Corporate 6-6
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Yield Curve and the Term Structure of Interest Rates Term structure: relationship between interest rates (or yields) and maturities. The yield curve is a graph of the term structure. The March 2010 Treasury yield curve is shown at the right.
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