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1、Chapter 5The Behaviour of Interest Rates 2005 Pearson Education Canada Inc.Determinants of Asset Demand2 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Derivation of Bond Demand Curve(F P)i = RETe = PPoint A:P = $950($1000 $950)i = = 0.053 = 5.3%$950Bd = $100 billion3 2005 Pearson Ed
2、ucation Canada Inc.Pearson Education Canada Inc.Derivation of Bond Demand CurvePoint B:P = $900($1000 $900)i = 0.111 = 11.1%$900Bd = $200 billionPoint C: P = $850, i = 17.6% Bd = $300 billionPoint D: P = $800, i = 25.0% Bd = $400 billionPoint E: P = $750, i = 33.0% Bd = $500 billionDemand Curve is B
3、d in Figure 1 which connects points A, B, C, D, E.Has usual downward slope4 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Derivation of Bond Supply CurvePoint F:P = $750, i = 33.0%, Bs = $100 billionPoint G:P = $800, i = 25.0%, Bs = $200 billionPoint C:P = $850, i = 17.6%, Bs = $300
4、 billionPoint H:P = $900, i = 11.1%, Bs = $400 billionPoint I:P = $950, i = 5.3%, Bs = $500 billionSupply Curve is Bs that connects points F, G, C, H, I, and has upward slope5 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Supply and Demand Analysis ofthe Bond MarketMarket Equilibriu
5、m1. Occurs when Bd = Bs, at P* = $850, i* = 17.6%2. When P = $950, i = 5.3%, Bs Bd (excess supply): P to P*, i to i*3. When P = $750, i = 33.0, Bd Bs (excess demand): P to P*, i to i*6 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Loanable Funds Terminology1.Demand for bonds = suppl
6、y of loanable funds2.Supply of bonds = demand for loanable funds7 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Shifts in the Bond Demand Curve8 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Factors that Shift the Bond Demand Curve1. WealthA.Economy grows, wealth ,
7、Bd , Bd shifts out to right2. Expected ReturnA.i in future, Re for long-term bonds , Bd shifts out to rightB.e , Relative Re , Bd shifts out to rightC.Expected return of other assests , Bd , Bd shifts out to right3. RiskA.Risk of bonds , Bd , Bd shifts out to rightB.Risk of other assets , Bd , Bd sh
8、ifts out to right4. LiquidityA.Liquidity of Bonds , Bd , Bd shifts out to rightB.Liquidity of other assets , Bd , Bd shifts out to right9 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Factors that Shift Demand Curve for Bonds10 2005 Pearson Education Canada Inc.Pearson Education Can
9、ada Inc.Shifts in the Bond Supply Curve1.Profitability of Investment OpportunitiesBusiness cycle expansion, investment opportunities , Bs , Bs shifts out to right2.Expected Inflatione , Bs , Bs shifts out to right3.Government ActivitiesDeficits , Bs , Bs shifts out to right 2005 Pearson Education Ca
10、nada Inc.11Factors that Shift Supply Curve for Bonds12 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Changes in e: the Fisher EffectIf e 1.Relative RETe , Bd shifts in to left2.Bs , Bs shifts out to right3.P , i 2005 Pearson Education Canada Inc.13Evidence on the Fisher Effect 14 20
11、05 Pearson Education Canada Inc.Pearson Education Canada Inc.Business Cycle Expansion1.Wealth , Bd , Bd shifts out to right2.Investment , Bs , Bs shifts out to right3.If Bs shifts more than Bd then P , i 2005 Pearson Education Canada Inc.15Evidence on Business Cycles and Interest Rates16 2005 Pearso
12、n Education Canada Inc.Pearson Education Canada Inc.Relation of Liquidity PreferenceFramework to Loanable FundsKeyness Major AssumptionTwo Categories of Assets in WealthMoneyBonds1.Thus:Ms + Bs = Wealth2.Budget Constraint:Bd + Md = Wealth3.Therefore:Ms + Bs = Bd + Md4.Subtracting Md and Bs from both
13、 sides:Ms Md = Bd BsMoney Market Equilibrium5.Occurs when Md = Ms6.Then Md Ms = 0 which implies that Bd Bs = 0, so that Bd = Bs and bond market is also in equilibrium17 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.1.Equating supply and demand for bonds as in loanable funds framewor
14、k is equivalent to equating supply and demand for money as in liquidity preference framework2.Two frameworks are closely linked, but differ in practice because liquidity preference assumes only two assets, money and bonds, and ignores effects on interest rates from changes in expected returns on rea
15、l assets18 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Liquidity Preference AnalysisDerivation of Demand Curve1.Keynes assumed money has i = 02.As i , relative RETe on money (equivalently, opportunity cost of money ) Md 3.Demand curve for money has usual downward slopeDerivation o
16、f Supply curve1.Assume that central bank controls Ms and it is a fixed amount2.Ms curve is vertical lineMarket Equilibrium1.Occurs when Md = Ms, at i* = 15%2.If i = 25%, Ms Md (excess supply): Price of bonds , i to i* = 15%3.If i =5%, Md Ms (excess demand): Price of bonds , i to i* = 15%19 2005 Pear
17、son Education Canada Inc.Pearson Education Canada Inc.Money Market Equilibrium20 2005 Pearson Education Canada Inc.Pearson Education Canada Inc.Rise in Income or the Price Level1.Income , Md , Md shifts out to right2.Ms unchanged3.i* rises from i1 to i221 2005 Pearson Education Canada Inc.Pearson Ed
18、ucation Canada Inc.Rise in Money Supply1.Ms , Ms shifts out to right2.Md unchanged3.i* falls from i1 to i222 2005 Pearson Education Canada Inc.Pearson Education Canada Inc. 2005 Pearson Education Canada Inc.23Money and Interest RatesEffects of money on interest rates1. Liquidity EffectMs , Ms shifts right, i 2. Income Eff
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