Question

In: Economics

Meredith Whitney came out during the Great Recession and stated that there would be billions of...

Meredith Whitney came out during the Great Recession and stated that there would be billions of dollars in municipalities defaulting on their debt from a lack of tax revenues and too much of a debt burden. Graphically show using the bond market what would happen to the premium between Munis and Treasuries following this announcement.

Solutions

Expert Solution

In each graph, D0 and S0 are initial bond demand and supply curves, intersecting at point A with initial price P0 and quantity of bonds Q0.

When municipalities are expected to default, muni-bonds become riskier. Demand for Muni-bonds decreases, which shifts muni-bond demand curve to left, decreasing both price and quantity of muni-bonds. As bond price and interest rate are inversely related, lower muni-bond price increases muni-bond interest rate.

In following graph, as D0 shifts left to D1, it intersects S0 at point B with lower price P1 and lower quantity Q1.

At the same time, lower demand for muni-bond increases the demand for treasury bonds, its substitute, which shifts T-bond demand curve to right, increasing both price and quantity of T-bonds. As bond price and interest rate are inversely related, higher T-bond price decreases T-bond interest rate.

In following graph, as D0 shifts right to D1, it intersects S0 at point B with higher price P1 and higher quantity Q1.

Higher muni-bond interest rate and lower T-bond interest rate will increase the premium between Muni and Treasury bonds.


Related Solutions

A report just came out that stated that 22.9% of all Americans say that vanilla is...
A report just came out that stated that 22.9% of all Americans say that vanilla is their favorite ice cream, 23.4% say that chocolate is their favorite, 8% favor butter pecan, 8.7% favor strawberry, and the rest have other favorites. An ice cream shop owner thinks that her customers are not like the rest of America. The table below shows the results of 1000 of her patrons' ice cream selections. What can be concluded at the αα = 0.05 significance...
What is the Bank Regulations during 2007-2009 ( Great Recession ) ?
What is the Bank Regulations during 2007-2009 ( Great Recession ) ?GIVE DEFINITIONS ABOUT ALL OF THESE TERMS:TARP; HERA; Federal Housing Finance; Regulatory Reform Act of 2008; HOPE for homeowners act of 2008; SAFE Secure and Fair Enforcement for Mortgage Licesing Act of 2008; Forecosure Prevention Act of 2008 and FHA Modernization 2008; Emergency Economic Stabilization Act of 2008; Helping Families Ave Their Homes Act of 2008.
Point out the important dimensions of the Great Recession and lessons to be learned by policymakers.
Point out the important dimensions of the Great Recession and lessons to be learned by policymakers.
4. Point out the important dimensions of the Great Recession and lessons to be learned by...
4. Point out the important dimensions of the Great Recession and lessons to be learned by policymakers?
During the Great Recession (2008-2010) , “the portfolio of federal bonds amassed [by the FED] during...
During the Great Recession (2008-2010) , “the portfolio of federal bonds amassed [by the FED] during 2009 will swell…about doubling.” This is in contrast to the FED initial action to the 2007-8 crisis when one asset account was reduced and the funds shifted into another asset account of the FED to meet the liquidity needs of the marketplace:             a. FED expanded the money supply without expanding either the Loan or Security Portfolio on its balance sheet.             b. FED...
National Debt: During the Great Recession of 2008, there was an intentional increase in the federal...
National Debt: During the Great Recession of 2008, there was an intentional increase in the federal government budget deficit (that concurrently led to an increase in debt). Now that we have pulled out of the Recession, many individuals feel it is time to bring the federal government's budget back into some sort of balance. Advocates of bringing the budget back into balance believe deficits impose a burden on future generations and critics of balancing the budget feel that the deficit...
What happened with the United States Imports/Exports during the Great Recession?
What happened with the United States Imports/Exports during the Great Recession?
What happened the value of the United States dollar during the Great Recession?
What happened the value of the United States dollar during the Great Recession?
Is an allegory of what happened in the U.S. economy during the great recession of 2008-2009....
Is an allegory of what happened in the U.S. economy during the great recession of 2008-2009. Therfore, starting from a position of equilibrium in AD-AS, explain what happened to U.S. economy during the great recession of 2008-2009. what did the U.S. goverment and/or the Fedreal Reserve do to get the U.S. out of recession? What eventually happened in 2015-2016 to improve the U.S. economy, GDP, and unemployment, while also decreasing prices? (Explain graphically and writing)
what were some of the limitatioans or successes during the great depression and the covid19 recession
what were some of the limitatioans or successes during the great depression and the covid19 recession
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT