Suppose individuals expect a cut in future taxes. Explain what effect this expected reduction in future taxes will have on the yield curve and on stock prices in the current period
What will be an ideal response?
The reduction in future taxes will cause the future one-year rate to rise. This increase in the expected one-year rate will cause the two-year rate to rise by approximately half the change in the future expected rate. The current one-year rate does not change. So, the yield curve gets steeper (as the long-term rate rises). The effects on stock prices again depend on whether it is anticipated or not. If anticipated, stock prices do not change. If partially unexpected, the effect on stock prices is ambiguous: the rise in future i will decrease stock prices while the increase in future Y will increase stock prices.
You might also like to view...
The Federal Reserve System is owned by
a. federal government agencies such as the Treasury b. the Congress of the United States c. the banks that are members of the Federal Reserve System d. the legislatures of all 50 states e. people who have deposits in member banks
An economic model can be defined as
a. a testable claim which can be evaluated with proper data. b. a representation of a theory or a part of a theory. c. another word for theory. d. a method to distinguish correlation from causation. e. All of the above are correct.