Question

4.  Problem 6.03

EXPECTED INTEREST RATE

The real risk-free rate is 3.5%. Inflation is expected to be 2.5% this year and 5% during the next 2 years. Assume that the maturity risk premium is zero.

1. What is the yield on 2-year Treasury securities? Do not round intermediate calculations. Round your answer to two decimal places.
   
   %
   
2. What is the yield on 3-year Treasury securities? Do not round intermediate calculations. Round your answer to two decimal places.
   
   %

Answer 1

a

2 year yield = Real risk free rate + (IP1+IP2)/2

=3.5+(2.5+5)/2

=7.25%

b. 3 year yield = Real risk free rate + (IP1+IP2+IP3)/3

=3.5+(2.5+5+5)/3

=7.67%