(Solution Document) You've just taken a job at a investment-banking firm and been given the job of c


You?ve just taken a job at a investment-banking firm

and been given the job of calculating the appropriate nominal interest rate for a number

of different Treasury bonds with different maturity dates. The real risk-free interest

rate that you have been told to use is 2.5%, and this rate is expected to continue

on into the future without any change. Inflation is expected to be constant over the

future at a rate of 2.0%. Since these are bonds that are issued by the U.S. Treasury,

they do not have any default risk or any liquidity risk (that is, there is no liquidityrisk

premium). The maturity-risk premium is dependent upon how many years the

bond has to maturity. The maturity-risk premiums are as follows:

BOND MATURES IN: MATURITY-RISK PREMIUM:
0?1 year 0.05%
1?2 years 0.30%
2?3 years 0.60%
3?4 years 0.90%

Given this information, what should the nominal rate of interest on Treasury bonds
maturing in 0?1 year, 1?2 years, 2?3 years, and 3?4 years be?


 







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