# Increased government spending

1. Using the loanable funds theory, show in a graph how each of the following events affects the supply & demand for loans & the equilibrium real interest rate: a. increased government spending (assume no change in taxes) b. Higher government spending in foreign countries. c. Increased consumer confidence.2. If bond liquidity were to increase, in the liquidity preference theory, how will this affect money demand and the interest rate?3. Suppose it is 2018 and the 1-year interest rate is 3%. The expected 1-year rates for the four following years (2019 -2022) are 3%, 4%, 5% and 4%. a. Assume expectations theory of the term structure with no term premium. Calculate the interest rates on 2018 bonds with maturities of 1, 2, 3, 4, and 5 years. Draw a yield curve.b. Redo part a with term premiums. Assume a term premium for an n-year bond is (n/3)%4. Suppose a U.S. Treasury Bond costs \$100 and promises a payment of \$110 in one year. A bond with Acme Corporation costs \$100 and promises \$115 in a year. Assume that acme pays the \$115 with probability p. With probability (1-p), Acme defaults and pays nothing. What are the likely values of p? Explain.

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