Suppose the expectations hypothesis is true.The interest rate on a bond maturing in one year is 2%,and the interest rate on a bond maturing in two years is 3%.The interest rate that investors expect next year on a one-year bond is ________.

Question

Quizplus · Accepted Answer

According to the expectations hypothesis, the interest rate on a two-year bond is the average of the current one-year rate and the expected one-year rate next year. Thus, (2% + expected rate)/2 = 3%, solving gives an expected rate of 4%.

Suppose the Expectations Hypothesis Is True