The Three Most Important Things I Learned In This Course

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In other courses, we have learned about what a bond is. One of the most important things I learned in this class is what affects the supply and demand of bonds, which ultimately decides the price of a bond. Three main items determine the supply of bonds: the expected profitability of investment opportunities, the expected inflation and the government budget. The expected profitability of investment opportunities is important because companies issue bonds to raise money. If a company does not feel that they can make profitable investments with the money they would obtain from issuing a bond they are not going to want to incur the expense (the interest on the bond) and therefore are not going to be as likely to issue a bond. That is part of why you see more bonds for sale during a business cycle expansion than during a recession. The expected inflation influences the supply of bonds because an increase in the expected inflation lowers the real cost of borrowing for a company. If the cost of borrowing money goes down then there are going to be more companies that want to take advantage of what is known as “cheap money”. The government budget is also a large factor in determining the supply of bonds because the U.S. Treasury department issues a large quantity of bonds to fund the government’s budget deficit. The bigger the delta between the government’s expenses and revenue the more money they need to make up this gap and to do this they sell bonds. Five things determine the demand for bonds; wealth, expected interest rate, expected inflation, riskiness of bonds to other assets and liquidity of bonds compared to other assets. Wealth is referring to how much wealth the general public has. When people have more money to ... ... middle of paper ... ... at each Federal Open Market Committee meeting. This interest rate is important because of its affect on interest rates throughout the economy. The discount rate is the interest rate that banks pay on reserves borrowed from the Federal Reserve through the discount window. The lending the Federal Reserve does through the discount window affects bank’s reserves as well as the entire monetary base and money supply. The most important function of the discount window is that it allows the Federal Reserve to act as a lender of last resort. This is where the Federal Reserve loans out money to banks that are facing bank panics and keeps banks from failing. We have seen this tool used quite frequently lately with the financial meltdown that occurred in 2008. I am sure the recession would have been a lot different if the Federal Reserve had not been around to help.

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