Spring_2011_Problem_Set_2

Spring_2011_Problem_ - Department of Economics Lehigh University Eco 29 Problem Set 2 Professor OBrien Spring 2011 1 If mortgage interest rates

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Department of Economics Professor O’Brien Lehigh University Spring 2011 Eco 29 Problem Set 2 1. If mortgage interest rates rise from 5 percent to 10 percent, but (at the same time) the rate of increase in housing prices which had been expected to be 2 percent per year is now expected to be 9 percent per year, are people more or less likely to buy houses? Briefly explain. 2. TIAA-CREF is the pension plan for college professors. In the early 1990s, a TIAA-CREF quarterly report included the following discussion of its first investments: “With assets of just more than $1 million in 1919, $700,000 was invested in what, at the time, was considered an ironclad investment: railroad bonds. ... Some of [these] bonds were due in 1995, and [others] in 1997 – rest assured TIAA is not holding these bonds to maturity.” Assuming that by “ironclad” they mean low risk, was a portfolio loaded with these sorts of bonds in fact low risk? Explain. 3. Predict what will happen to interest rates on bonds if the public suddenly expects a large increase in stock prices. Briefly explain. 4. During the late 1970s Michael Milken convinced many investors that the yields on junk bonds more than compensated for their higher default risk. What do you think happened to the liquidity of these bonds as a result? 5. Suppose that the liquidity of medium-quality corporate bonds rises. Explain what will happen to the yields on medium-quality corporate bonds compared with U.S. Treasury bonds. 6.
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This note was uploaded on 02/22/2011 for the course ECO 029 taught by Professor Anthonyp.o'brien during the Spring '08 term at Lehigh University .

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Spring_2011_Problem_ - Department of Economics Lehigh University Eco 29 Problem Set 2 Professor OBrien Spring 2011 1 If mortgage interest rates

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