The theory of traditional expectations

The theory of traditional expectations

The theory of traditional based on the concept of expectations, and the model structure rate term, simply, the exact time, the gap between rates of different maturities, can be defined simply as the expectation that the market has the interest of the future. And it happens, especially when we talk about the interest rate after one year.

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The expectations theory in the traditional version

The first thing to do is to go and examine the theory of expectations, after the traditional version, zero risk premium is assumed. Assumptions that have been developed in support of this theory are as follows:

- All parties involved in a range of meticulously predict it will be the interest rate on short-term future.
- There is no interest or for the lender and the borrower.

- There is a full availability for the things of the transfer, both for the lender to the borrower, no matter what you want to invest for a period of ten years, or if you want to buy a title always or even negotiating the annual title ten times.

Ditto for those who invest for a period of a license or ten years selling bonds after the first year.

How do you spell that theory

As we have seen expectations theory have been created in very competitive conditions in which market participants in financial assets, or who think they have, full knowledge of what will be the future of interest rates. Come on, then, to see how you can describe the traditional theory of expectations. Imagine for a moment t is this:

r (t, t + 1) = 4%
r (t, t + 2) = 5.981%
Et r (t + 1, T + 2) = 8%

Therefore, we say that a person can use their savings for two years, and then go to the TA t + 2, with a rate of 5,981% or even decide to invest in the first year at a rate of 4%; so you can re-invest capital for the second year, much higher rate, which is equal to all'8% If you choose the first solution to the second, the average yield of the guard is always 5,981%, the situation is different, however, if the interest rate for next year is 10%, in this case, the investor decides to buy a title of the year.

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In this case, the demand for the short-term increase in value, while reducing the lengthy paperwork. This would lead to the subsequent price movement of the securities, which will return to the line between the actual and expected performance.

The difference between interest rates

In light of what we have just said, we can say that the difference between interest rates linked exclusively to those who are expectations that the market for these short-term rates.

If the monetary authorities decided to change the fee structure, then you can safely go to influence expectations about future exchange rate in the short term, all this because the theory does not describe the specific way it goes in the form expectations, but leave room for any effect that could hit them, and you can go to change the value of short-term future Stopes all this will create a new rate structure.

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