At the latest auction,1-year T-Bills were priced to yield 2%.Economists expect interest rates to rise next year.In particular,they expect that the auction next year will result in 1-year T-Bill yields of 2.5%.Tomorrow,the Treasury Department will auction 2-year T-Notes.What yield do you expect they will have?

Question

Quizplus · Accepted Answer

According to the expectations hypothesis, the long-term rate is a geometric average of the individual one-year rates: (1 + k₂)² = (1 + k₁) × (1 + ₁k₂) k₂ = [(1 + k₁) × (1 + ₁k₂)]^0.5 - 1 k₂ = 11ea7fdb_fbfc_1bb8_a768_d71ac4a38c8d_TB2902_11 - 1 k₂ = 0.022497 or 2.25%

At the Latest Auction,1-Year T-Bills Were Priced to Yield 2