Assume the current interest rate on a one-year Treasury bond (₁R₁) is 5.50%, the current rate on a two-year Treasury bond (₁R₂) is 5.95%, and the current rate on a three-year Treasury bond (₁R₃) is 8.50%. If the unbiased expectations theory of the term structure of interest rates is correct, what is the one-year interest rate expected on Treasury bills during year 3, ₃f₁?

Question

Quizplus · Accepted Answer

To find the expected one-year interest rate for year 3, use the formula: (1 + ₁R₃)^3 = (1 + ₁R₂)^2 * (1 + ₃f₁). Solving for ₃f₁ gives approximately 13.79%.

Assume the Current Interest Rate on a One-Year Treasury Bond