How would the demand curve for corporate bonds be affected if news about accounting scandals in...

How would the demand curve for corporate bonds be affected if news about accounting scandals in major corporations spread? What would be the effect on interest rates? Explain using appropriate diagrams.

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Expert Solution

When the news about the accounting scandals would spread, the investors would be reluctant to buy the corporate bonds, as the scam or the scandals signal that the profitability of the firms is not what is being shown to revealed to the public basically the window dressing. LAck of profitability affects the ability of the firms to pay the interest on the bonds. This would thus reduce down the demand for the corporate bonds., shifting the demand curve to the left. The reduced demand when meeting with the same supply, the interest rates would rise. The interest rates must be high as the investors should now be compensated for the extra risk they are taking.

In the graph, the prices are on the y-axis. Higher the price means lesser the interest rates or the yields. So the new lower price implies the higher yield or interest rate.

Rahul Sunny answered 1 year ago

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