Question

 15. The Fisher effect

 Suppose inflationary expectations in the economy decrease.

 The following graph shows the market for bonds in the U.S. The upward-sloping orange line represents the supply of bonds, and the downward-sloping blue line represents the demand for bonds.

 Adjust the following graph to show the effect of decreased inflationary expectations on the bond market.

 The following graph shows the market for loanable funds in the U.S. The upward-sloping orange line represents the supply of loanable funds, and the downward-sloping blue line represents the demand for loanable funds.

 Adjust the following graph to show the effect of decreased inflationary expectations on the market for loanable funds.

 True or False: In the bond market, increased inflationary expectations result in the increase in the supply of and decrease in the demand for bonds

 associated. This leads to higher bond prices and thus lower nominal interest rates.

 True

 False

Answer 1

Decreased expected inflation helps boosting the demand for bonds since it increases expected returns for investors so they demand more bonds. Supply decreases because lower expected inflation discourages firms to issue bonds. Hence supply curve shifts left while demand curve shifts right

At the same time, lower expected inflation will shift the supply curve of funds to the right while shifting the demand curve to the left.

False. This will reduce bond price and increase rate of interest.