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Due to a recession, expected inflation this year is only 3.75%. However, the inflation rate in...

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Finance

Due to a recession, expected inflation this year is only 3.75%.However, the inflation rate in Year 2 and thereafter is expected tobe constant at some level above 3.75%. Assume that the expectationstheory holds and the real risk-free rate (r*) is 3.5%. If the yieldon 3-year Treasury bonds equals the 1-year yield plus 1.5%, whatinflation rate is expected after Year 1? Round your answer to twodecimal places.

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3.9 Ratings (715 Votes)
Inflation for year 1 375 Real risk free rate 35 Nominal risk free rate for year 1 1 Real risk free rate1 Inflation 1 1 3751 35 1 10375 x 1035 1 1073812 1 0073812 73812 Since Treasury bond are considered to be risk free Yield of 1 year treasury bond Nominal    See Answer
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Transcribed Image Text

Due to a recession, expected inflation this year is only 3.75%.However, the inflation rate in Year 2 and thereafter is expected tobe constant at some level above 3.75%. Assume that the expectationstheory holds and the real risk-free rate (r*) is 3.5%. If the yieldon 3-year Treasury bonds equals the 1-year yield plus 1.5%, whatinflation rate is expected after Year 1? Round your answer to twodecimal places.

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