Question: Currently the yield on 1-year bills is 4%. The consensus expectation is that next year 1-year bills will yield 3%, and the year following 2%.

Currently the yield on 1-year bills is 4%. The consensus expectation is that next year 1-year bills will yield 3%, and the year following 2%.

a. If the pure expectations model of interest rates applies, what do 2-year notes now yield?

b. What do 3-year notes now yield?

c. Based on your answers, what does the slope of the yield curve tell you about market expectations for the future course of short-term interest rates?

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