Question

1. What do you think would happen to interest rates in the US if the US government deficits increase? What if foreign investors reduce their purchases of 10-year treasuries? Explain briefly.

2. What is the difference between tailoring and tapering?

Answer 1

1. The effect of rise in US government deficit is that if there are deficit then government would have to borrow from the market to meet that deficit and usually the interest rate has to be raised to attract the investors in the market despite the fact that US dollar is seen as a safe heaven during the economic turmoil. High deficit is associated with normally associated increase in interest rate and fall in private investment. If foreign investors reduce the purchase of the 10-year treasuries then the government will have to increase the interest that they are paying on the 10-year treasuries or government will have to cut its expenditure. To fund the deficit, there are few ways either borrow from the market or cut back the expenditure and increase the revenue sources like taxes.

2. The tailoring in business world means that you are adjusting your response to the external environment and taking appropriate action to deal with an unexpected situation. Tapering is a process which refers to winding down of certain activities by central banks. Tapering was seen after the 2008 economic crisis where bank followed a process of quantitative easing to stimulate the economy. One suitable example of tailoring would be when suddenly there is sudden fall in S&P Index due to threat of any widespread epidemic or terrorist threat, if the market falls below a certain level, the market is closed for that day.