The real risk-free rate is 3.5%. Inflation is expected to be 2% this year and 3.75%...

The real risk-free rate is 3.5%. Inflation is expected to be 2% this year and 3.75% during the next 2 years. Assume that the maturity risk premium is zero.

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

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

Expert Solution

Inflation premium is average of inflation over life of bond.

For 2Year security,

Inflation premium = (2% + 3.75%)/2 = 2.875%

Nominal yield = 3.5% + 2.875% = 6.38%

For 3Year security,

Inflation premium = (2% + 3.75% + 3.75%)/3 = 3.17%

Nominal yield = 3.5% + 3.17% = 6.67%

jeff jeffy answered 2 years ago

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