Suppose individuals expect an increase in future taxes. Explain what effect this expected increase in future taxes will have on the yield curve and on stock prices in the current period
What will be an ideal response?
The increase in future taxes will cause the future one-year rate to fall. This reduction in the expected one-year rate will cause the two-year rate to fall by approximately half the change in the future expected rate. The current one-year rate does not change. So, the yield curve pivots; it gets flatter (as the long-term rate falls). 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 drop in future i will increase stock prices while the drop in future Y will depress stock prices.
You might also like to view...
If the number of dollars needed to buy a representative basket of goods falls, the price level
a. falls, so the value of money falls. b. falls, so the value of money rises. c. rises, so the value of money falls. d. rises, so the value of money rises.
If the ________ cost of production for two goods is different between two countries then mutually beneficial trade is possible
A) marginal B) explicit C) opportunity D) implicit