Question

What is the key market behavior responsible for the link between long and short term interest rates? Type out the expression that characterizes the relationship between short and long term rates. Explain why this expression must hold with equality, at least in the long run.

Answer 1

Interest rates are important for savers, investors, cash holders who have fixed income investment. Interest rate depends on term of an investment or loan. The short term interest rates are less than the long term interest rates. The short term interest rates are applied to the investments which having a maturity period less than one year. These interest rates are applied to treasury bills, certificates of deposits and commercial paper. The longer term interest rates are applied to the instruments which have more than one year maturity period. This applied on bonds, real estate and notes payable. This long term rates are weak and variable.
Most of the investors prefer short term interest rate because it gives specific amount within the given period. The short term interest rates are low risk compared to the longer term. The most important market behaviour which create link between short run and long run are risk. Most of the economic units prefer low risk. The risk is very low for the short term interest rates. But most of the investors prefer long term interest rates. The long term interest rates are flexible in nature. The risk loving investors prefer these instruments. If the time period increased the interest rate will increase.