Question 1

An inverted yield curve is downward-sloping and indicates generally cheaper long-term borrowing costs than short-term borrowing costs.

Accepted Answer

An inverted yield curve indicates that long-term borrowing costs are lower than short-term borrowing costs.

Question 2

An inverted yield curve is upward-sloping and indicates generally cheaper long-term borrowing costs than short-term borrowing costs.

Accepted Answer

An inverted yield curve is actually downward-sloping and indicates generally higher short-term borrowing costs than long-term borrowing costs.

Question 3

In theory, the rate of return on U.S. treasury bills should always exceed the rate of inflation as measured by the consumer price index.

Accepted Answer

This is because U.S. treasury bills are considered a risk-free investment and are backed by the government. Therefore, their yield should at least keep up with inflation to maintain their value. If the yield falls below the rate of inflation, investors would lose purchasing power on their investments.

Question 4

The nominal rate of interest is equal to the sum of the real rate of interest plus the risk free rate of interest.

Accepted Answer

The nominal rate of interest is equal to the sum of the real rate of interest plus the expected inflation rate, not the risk free rate of interest.

Question 5

A yield curve that reflects relatively similar borrowing costs for both short- and long-term loans is called a normal yield curve.

Accepted Answer

A yield curve that reflects relatively similar borrowing costs for both short- and long-term loans is called a flat yield curve. A normal yield curve typically shows lower interest rates for short-term loans compared to higher rates for long-term loans, indicating an upward slope.

Question 6

The nominal rate of interest is equal to the sum of the real rate of interest plus an inflation premium plus a risk premium.

Accepted Answer

This is true, as the nominal rate of interest incorporates not only the real rate of interest (i.e. the rate adjusted for inflation), but also an additional premium for inflation and another premium for risk.

Question 7

A downward-sloping yield curve indicates generally cheaper short-term borrowing costs than long-term borrowing costs.

Accepted Answer

A downward-sloping yield curve, also known as an inverted yield curve, indicates generally higher long-term borrowing costs than short-term borrowing costs. This is because investors are anticipating a potential economic downturn or recession in the near future. As a result, they are demanding higher yields for long-term bonds as a compensation for the increased risk.

Question 8

The risk free rate of interest is equal to the sum of the real rate of interest plus an inflation risk premium.

Accepted Answer

The risk free rate of interest is often calculated as the real rate of interest plus an inflation risk premium, meaning it reflects both the expected return on investment and the compensation for potential inflation. Therefore, the statement is true.

Question 9

The term structure of interest rates is the graphical presentation of the relationship between the annual rate of interest earned on a security purchased on a given day and held to maturity and the remaining time to maturity.

Accepted Answer

The answer of The term structure of interest rates is...

Question 10

An inverted yield curve is an upward-sloping yield curve that indicates generally cheaper short-term borrowing costs than long-term borrowing costs.

Accepted Answer

An inverted yield curve is a downward-sloping yield curve that indicates generally more expensive short-term borrowing costs than long-term borrowing costs.

Question 11

The liquidity preference theory suggests that for any given issuer, long-term interest rates tend to be higher than short-term rates due to the lower liquidity and higher responsiveness to general interest rate movements of longer-term securities; this causes the yield curve to be upward-sloping.

Accepted Answer

The liquidity preference theory suggests that long-term interest rates tend to be higher than short-term rates, leading to an upward-sloping yield curve due to the lower liquidity and higher responsiveness to general interest rate movements of longer-term securities.

Question 12

An inverted yield curve is a downward-sloping yield curve that indicates generally cheaper long-term borrowing costs than short-term borrowing costs.

Accepted Answer

An inverted yield curve occurs when long-term interest rates fall below short-term rates, indicating cheaper long-term borrowing costs compared to short-term ones.

Question 13

The real rate of interest is the actual rate of interest charged by the suppliers of funds and paid by the demanders.

Accepted Answer

The real rate of interest is the nominal rate adjusted for inflation, reflecting the true cost of borrowing.

Question 14

The longer the maturity of a Treasury (or any other) security, the smaller the interest rate risk.

Accepted Answer

The statement is false. The longer the maturity of a security, the greater the interest rate risk. This is because longer-term securities are more sensitive to changes in interest rates than shorter-term securities. As interest rates rise, the prices of longer-term securities will fall more than the prices of shorter-term securities, and vice versa.

Question 15

The real rate of interest is the compensation paid by the borrower of funds to the lender. From the borrower's point of view, the real rate represents the cost of borrowing funds.

Accepted Answer

The real rate of interest is the nominal interest rate adjusted for inflation, representing the true cost of borrowing in terms of purchasing power, not just the compensation paid.

Question 16

A normal yield curve is upward-sloping and indicates generally cheaper short-term borrowing costs than long-term borrowing costs.

Accepted Answer

A normal yield curve is upward-sloping and indicates that short-term interest rates are lower than long-term interest rates. This makes short-term borrowing cheaper than long-term borrowing.

Question 17

Upward-sloping yield curves result from higher future inflation expectations, lender preferences for shorter maturity loans, and greater supply of short-term as opposed to long-term loans relative to their respective demand.

Accepted Answer

An upward-sloping yield curve reflects higher yields on longer-term bonds compared to shorter-term bonds, indicating that investors expect higher inflation in the future. This curve can also arise from lender preferences for shorter-term loans and the greater supply of short-term loans compared to long-term loans relative to their respective demand.

Question 18

During the past twenty years, the rate of return on U.S. treasury bills always exceeded the rate of inflation as measured by the consumer price index.

Accepted Answer

The rate of return on U.S. treasury bills has not always exceeded the rate of inflation over the past twenty years; there have been periods where inflation outpaced the returns on these bills.

Question 19

The nominal rate of interest is the rate that creates equilibrium between the supply of savings and the demand for investment funds in a perfect world, without inflation, where funds suppliers and demanders have no liquidity preference and all outcomes are certain.

Accepted Answer

The statement is incorrect because the nominal interest rate represents the real interest rate plus the expected rate of inflation. In addition, assumptions such as no liquidity preference and uncertainty of outcomes do not exist in a perfect world, but rather reflect real-world conditions.

Question 20

Although Treasury securities have no risk of default or illiquidity, they do suffer from "maturity risk"the risk that interest rates will change in the future and thereby impact longer maturities more than shorter maturities.

Accepted Answer

Treasury securities, like all fixed income securities, are subject to interest rate risk. This means that if interest rates rise, the value of existing fixed income securities will decrease. Therefore, the longer the maturity of a Treasury security, the greater the degree of interest rate risk.

Quiz 6: Interest Rates and Bond Valuation