Question

Assume the expectations hypothesis regarding the term structure of interest rates is correct. Then, if the current two-year interest rate is 5% and the current one-year rate is 6%, then investors expect the future one-year rate to be:A) Investors are expecting the future one-year rate to be 4%.
B) Investors are expecting the future one-year rate to be 8%.
C) Investors are expecting the future one-year rate to be 6%.
D) None of the above.

Answer 1

Answer:

Investors are expecting the future one-year rate to be 8%.

Explanation:

Using the concept of forward rates, if the current two year interest rate is 5% and the current one-year interest rate is 6%, then it is only sure that the one-year interest rate in the future will increase to a value higher than the current one-year interest rate and from the options the only answer with a value higher is B.

Answer 2

Answer:

B) Investors are expecting the future one-year rate to be 8%