Financial markets, expectations and their relevance for monetary policy Flashcards
Discount factor
1 /1+it
The expected present discounted value of a sequence of future payments is
is the value today of this expected sequence of payments. Once the manager has computed the expected present discounted value of the sequence of profits, her problem becomes simpler.
The higher the interest it, the lower is
the present value of a payment in the future
Nominal
Present value = V_t = ∑ z_t+n / (1 + i_t)(1 + i_{e t+1})…(1 + i_{e t+n})
Discount rate
The rate at which you discount in this case the nominal interest i
Real
voir page 21: formule
Present value depends:
-positively on payment flows
-negatively on level of the interest rates
Important for the interest rate of a bond:
maturity, default risk (abstracted from for simplicity)
n-year maturity
Pnt = 100 (1+int )^n
Expectations hypothesis:
investors only care about the expected return
Price for the n-year bond equals…
the present value of the expected price of a one-year bond purchased in period n -1
yield curve
Une courbe de rendement est une ligne qui représente les rendements ou les taux d’intérêt d’obligations ayant la même qualité de crédit mais des dates d’échéance différentes
–> Relation between bond and interest rate
The yield curve is the relation between the yield of bonds and their maturity.
Upward sloping yield curve
financial markets expect higher short-term interest rates
Downward sloping yield curve
financial markets expect lower short-term interest rates (indicator for recessions)
▶ But: long-term interest rates also include liquidity- and risk-premium
⇒ Changes in these premia over time constrain what one can learn from the yield curve about interest-rate expectations
Forward Guidance Influence the yield curve by…
guiding interest-rate expectations
Quantitative easing as unorthodox monetary-policy option
▶ Zero lower bound for short-term interest rate
▶ Reduce interest of long-term bonds (given imperfect arbitrage
Quantitative easing
a form of monetary policy in which a central bank, like the U.S. Federal Reserve, purchases securities in the open market to reduce interest rates and increase the money supply.
Quantitative easing in the IS-LM Model
▶ ”Perfect trap”
- Liquidity trap
- Fiscal policy not effective or not (politically) feasible
▶ Role for quantitative easing as unorthodox monetary policy option
Fundamental value Q of a stock is
the present value of future dividend payments D
real interest includes
risk premium: is the investment return an asset is expected to yield in excess of the risk-free rate of return
Stock price
- decreases if interest rates are higher (today and in the future)
- decreases if the risk premium is higher
Efficient-market hypothesis
stock prices cannot be predicted systematically (random walk)
Rational speculative bubbles
based on expectations of price increases
Possible that things (possibly without much fundamental value such as tulip bulbs) realize …
big capital gains through price increases