In: Accounting
Answer: Option d) Liquidity preference and Unbiased Expectations
Explanation:
The liquidity theory holds that investors demand a premium to compensate them for interest rate exposure and the premium increases maturity. This theory shows the upward sloping Yield curve. According to the Theory of Liquidity preferense, the short-term interest rate in economy is determined by the law of supply and demand. It gives the clear yield curves for the increase in the rate of interest and premium through increase in maturity.
Unbiased expectation theory is also known as the pure expectations theory, that forward rates for the future is expected soley a function of expected future spot rates. In this theory based on current long-term interest rates contain an implict prediction from short-term interest rates. The two one-year bond would have a lower intrest rate when compared with the two-year bond.
Therefore, liquidity theory and Unbiased expectation theory best explain the shape of the yield curve
Thus, Option d) is correct and remaining options are incorrect.