Please help me with my Economics homework? On the following graph of bonds, draw the following: a. The initial supply an...
Please help me with my Economics homework?
On the following graph of bonds, draw the following:
a. The initial supply and demand for bonds.
b. The shock of higher than expected inflation.
c. Final change of the interest rate.
Homework Answers
a) BS1 is the initial supply of bonds and BD1 is the initial demand for bonds. BS1 is a vertical line because supply of bonds is fixed. It is interest inelastic.
b) When the expected inflation is higher, people tend to supply more bonds and the supply curve shifts rightward to BS2.
c) Real interest rate falls back. According to Fischer effect, real interest rate is the difference between nominal interest rate and expected inflation. so when expected inflation increases keeping the nominal rate constant, real interest rate falls.
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