The term structure of interest rates

Question

Quizplus · Accepted Answer

The term structure of interest rates is a graphical representation of the relationship between interest rates and the term (or maturity) of debt securities. It shows how interest rates vary across different maturities for a given type of bond or security.

Option A is correct because the term structure of interest rates reflects the market's expectations about future inflation and interest rates. If investors expect inflation to rise, they will demand higher interest rates for longer-term bonds to compensate for the eroding effect of inflation on the purchasing power of their investments.

Option B is correct because an inverted yield curve occurs when short-term interest rates are higher than long-term rates. In this case, investors are willing to accept lower yields on longer-term bonds because they expect short-term rates to fall in the future, which would increase the value of longer-term bonds.

Option C is correct because the normal yield curve is upward sloping, reflecting the fact that longer-term bonds generally offer higher yields than short-term bonds to compensate investors for the added risk of holding bonds for a longer period.

The Term Structure of Interest Rates