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Learning Objectives
Chapter 5
The Behavior of
Interest Rates
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5-5
5-6
Market Equilibrium
Bs
With excess supply, the
bond price falls to P *
A
900
(i = 11.1%)
P * = 850
(i * = 17.6%)
800
(i = 25.0%)
750
(i = 33.0%)
E
Bd
100
200
300
400
Quantity of Bonds, B
($ billions)
5-7
500
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5-9
5-10
5-11
5-12
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Price of Bonds, P
B1s
B2s
Step 1. A rise in expected inflation shifts
the bond demand curve leftward . . .
1
P1
2
P2
B1d
B2d
Quantity of Bonds, B
Sources: Federal Reserve Bank of St. Louis FRE D database: http://research.stlouisfed.org/fred2. Expected inflation calculated
using procedures outlined in Frederic S. Mishkin, The Real Interest Rate: An Empirical Investigation, Carnegie-Rochester
Conference Series on Public Policy 15 (1981): 151200. These procedures involve estimating expected inflation as a function of
past interest rates, inflation, and time trends.
5-13
5-14
Price of Bonds, P
B1s
B2s
P1
2
P2
B1d
B2d
Quantity of Bonds, B
5-15
5-16
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Therefore:
Therefore
5-19
5-20