Use simple (graphical) supply/demand analysis to answer the following questions:

(a) In our simple model of bond supply/demand we found that available income is a crucial factor for bond demand. Use this argument to show what would happen to bond prices in a recession (i.e. national income drops sharply). What would that do to the corresponding yields?

(b) Consider two, same maturity bonds. Initially both have a Moody’s rating of Baa. Now suppose one of the two bonds gets downgraded to C. What would happen to the spread (i.e. the difference in yields) between the two bonds. Which one will carry a risk premium?

(c) Suppose the fees for corporate bond brokers were suddenly capped by the federal government. What would likely happen to risk premia carried by corporate bonds over same maturity U.S. treasury bonds?

(c) Suppose the federal government started charging income tax on municipal bonds, but not quite as much as on U.S. treasury bonds. What would happen to the spread between municipal and treasury bonds?