Canada 8 1970m1 1980m1 1990m1 2000m1 2010m1 Yield spread delined as 10 year less

Question

Canada 8 1970m1 1980m1 1990m1 2000m1 2010m1 Yield spread delined as 10 year less 3 month interest rate The probit regression is: (Recession, +1,1+12) = (-0.50-0.49 Spread, ) With the slope coefficient (constant) statistically significant at the 1% (5%) level As of October, the spread is 0.81%; assume the risk premium for 10 year bond is 0.75% (75 basis points). 1.1 (5 minutes) Explain what you think will happen to short term rates over the next ten years? 1.2 (10 minutes) Do you believe a recession is likely in the next year. Why or why not?

Explanation / Answer

1. Short term rates may predict an increase in the short term rate this is so becasue the expectation theory states that a steep yield curve predicts higher future short term rates.

2.If we assume that borrowers expect a given real return, then an increse in expected inflation will increase nominal interest rate. If rate of interest increases inflation will tend to rise

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