Question

3) Bond Model:

a. Graphically illustrate a decrease in expected profitability on the bond model (i.e. from a recession). Explain the model.

b. Graphically illustrate an increase in the expansion of the business cycle using the bond model. Explain the model and the process. (two linked graphs)

c. Graphically illustrate the introduction of default risk in the bond model (two linked graphs). Explain the model and the process.

d. Graphically illustrate a budget surplus using the bond model. Explain the model.

Answer 1

Bond Model-

- The Bond Model is mostly used to give a basic idea of what the individual electrons are doing in the semiconductor.

It takes advantage of the fact that the structure of a polycrystalline or crystalline material is uniform and virtually identical throughout.

1- Example-

- If the bank buys or purchases the bonds from the market, on the one hand the stock of money will increase and on the other hand quantity of bonds available in the market will decrease.

As a result bond prices will increase or the interest rate, that is,the yield will decrease. People will now prefer to buy less bonds and keep a greater fraction of their wealth in the form of cash. Due to increase in the money supply the LM curve will shift to the right .

- Intially the product and money market is in equilibrium at point E( lS=LM)

- Equilibrium income- Y1; Interest rate - i1

-Assume the bank buys the bonds, With price level constant, when the nominal quantity of money supply increases, real money supply (M/P ) increases and the LM curves shifts to the right to LM1 .

At given interest rate i1, there will be supply of money. Therefore, people will buy other assets. As a result assets price will rise or interest rate will decrease.

When interest rate falls, money demand for speculative purpose (L2) rises. And becomes equal to money supply E1.

But at E1 the product market is not in Equilibrium and to attain general equilibrium interest rate has to fall.

Bond- The bond market broadly describes a marketplace where investors buy debt securities that are brought to the market by either governmental entities or publicly- traded corporations.

2- Example-

- Assume- Government purchases bond

- Result- Money supply increases, LM curve shifts to the right to LM1

- Change in M/P leads to change in the income level but the change is the income level in Intermediate range is lesser than Change in income in the classical range.

3- If you have already figured out that expected inflation will decrease and increase bond yields by shifting the supply curve to the right and the demand curve to the left.

- If you noticed that the response of bond prices and yields cycle expansion is intermediate.

- A boom shifts the bond supply curve to the right .

- But demand does not stay constant.

- The net effect on the interest rate, therefore depends on how much each curve shifts.

- Process Model - Process models are processes of the same that are classified together into a model.

4- The loanable funds market illustrates the interaction of borrowers and savers in the economy.

1- A vertical axis labelled " real interest rate" or " r.i.r". and a horizontal axis labelled " Quantity of loanable funds " QLF"

2- A downward sloping demand curve labelled DLF and an upward sloping supply curve labelled "SLF "

3- An equilibrium real interest rate and equilibrium quantity labelled on the axis .

-Model- A Graphical model is a probablistic model for which a graph expresses the conditional dependence structure between random variables.

- They are commonly used in probability theory, statistics- particularly Bayesian statistics- and machine learning.