Determinants of Interest Rates Suppose you and most other investors expect the inflation rate to be 7% next year, to fall to 5% during the following year, and then to remain at a rate of 3% thereafter. Assume that the real risk-free rate, r*, will remain at 2% and that maturity risk premiums on Treasury securities rise from zero on very short-term securities (those that mature in a few days) to a level of 0.2 percentage points for 1-year securities. Furthermore, maturity risk premiums increase 0.2 percentage points for each year to maturity, up to a limit of 1.0 percentage point on 5-year or longer-term T-notes and T-bonds. a. Calculate the interest rate on 1-year Treasury securities. Round your answer to two decimal places. % Calculate the interest rate on 2-year Treasury securities. Round your answer to two decimal places. % Calculate the interest rate on 3-year Treasury securities. Round your answer to two decimal places. Calculate the interest rate on 4-year Treasury securities. Round your answer to two decimal places. % Calculate the interest rate on 5-year Treasury securities. Round your answer to two decimal places. % Calculate the interest rate on 10-year Treasury securities. Round your answer to two decimal places. % Calculate the interest rate on 20-year Treasury securities. Round your answer to two decimal places. %

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Interest Rate

When you deposit your money with the bank, the deposit earns you some extra money at the end of the specific period – something more than what you deposited. That amount of money that the bank pays you for keeping the money with the bank is the “interest” and the percentage at which the bank pays you for your amount is called the “interest rate”.