Question: a. Determine the forward rate for various one-year interest rate scenarios if the two-year interest rate is 8 percent, assuming no liquidity premium. Explain the

a. Determine the forward rate for various one-year interest rate scenarios if the two-year interest rate is 8 percent, assuming no liquidity premium. Explain the relationship between the one-year interest rate and the one-year forward rate, holding the two-year interest rate constant.
b. Determine the one-year forward rate for the same one-year interest rate scenarios in question (a), assuming a liquidity premium of 0.4 percent. Does the relationship between the one-year interest rate and the forward rate change when the liquidity premium is considered??
c. Determine how the one-year forward rate would be affected if the quoted two-year interest rate rises, holding the quoted one-year interest rate constant. Also, hold the liquidity premium constant. Explain the logic of this relationship.
d. Determine how the one-year forward rate would be affected if the liquidity premium rises, holding the quoted one-year interest rates constant. Also, hold the two-year interest rate constant. Explain the logic of this relationship.

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