1) Describe the given terms as they apply to interest rates:
a) The real risk-free rate (r*)
b) The nominal risk-free rate (Rrf)
c) The inflation premium (IP)
d) The default risk premium (DRP)
e) The liquidity premium (LP)
f) The maturity risk premium (MRP)
2) Suppose real risk-free rate is 1%. Suppose also that inflation is expected to be 2% in coming year (year 1), 3% in next year after that (year 2), and 2% in year after that (year 3). Suppose also that default risk premium, liquidity premium, and maturity risk premium are 0%. These conditions are given, what would be yield on three-year treasury bonds today?