Reading 23: Capital Market Expectations－LOS i economic, between, policy

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Session 6: Economic Concepts for Asset Valuation in Portfolio Management
Reading 23: Capital Market Expectations
LOS i: Evalute (1) the shape of the yield curve as an economic predictor and (2) the relationship between the yield curve and fiscal and monetary policy.

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Which of the following is consistent with a steeply upwardly sloping yield curve?

A) Monetary policy is expansive and fiscal policy is expansive.

B) Monetary policy is restrictive and fiscal policy is restrictive.

C) Monetary policy is restrictive while fiscal policy is expansive.

D) Monetary policy is expansive while fiscal policy is restrictive.

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Answer and Explanation

When both fiscal and monetary policies are expansive, the yield curve is sharply, upwardly sloping (i.e., short-term rates are lower than long-term rates), and the economy is likely to expand in the future.

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Which of the following is consistent with a flat yield curve?

A) Monetary policy is expansive and fiscal policy is expansive.

B) Monetary policy is restrictive while fiscal policy is expansive.

C) Monetary policy is restrictive and fiscal policy is restrictive.

D) Monetary policy is expansive while fiscal policy is restrictive.

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Answer and Explanation

If monetary policy is restrictive while fiscal policy is expansive, the yield curve will be flat.

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Which of the following is consistent with a likely weak economy in the future?

A) Monetary policy is expansive and fiscal policy is expansive.

B) Monetary policy is restrictive while fiscal policy is expansive.

C) Monetary policy is expansive while fiscal policy is restrictive.

D) Monetary policy is restrictive and fiscal policy is restrictive.

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Answer and Explanation

When both fiscal and monetary policies are restrictive, the yield curve is downward sloping (i.e., it is inverted as short-term rates are higher than long-term rates), and the economy is likely to contract in the future.

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