Assume that the expectations theory of the term structure of interest rates is correct, and other term structure theories are invalid. If a downward sloping yield curve is observed, which of the following is a correct statement?
A)Investors expect interest rates to be constant over time.
B)Investors expect interest rates to increase in the future.
C)Investors expect interest rates to decrease in the future.
D)Investors require a negative maturity risk premium.
E)The inflation premium must be greater than 2 percent.

Question

Quizplus · Accepted Answer

According to the expectations theory, the shape of the yield curve is determined by investors' expectations of future interest rates. In an downward sloping yield curve, it indicates that investors expect interest rates to decrease in the future. Therefore, choice C is the correct statement.

Assume That the Expectations Theory of the Term Structure of Interest