Microsoft Word - Money, Banking, and Int Finance(scribd).docx

Money, Banking, and International Finance

investors can sell an asset fast for little transaction cost. If the bond market becomes more

liquid, such as U.S. government securities, then investors boost their demand for U.S.

government bonds.

 A decrease in information costs increases the bond’s demand function shifting rightward.

Investors continually need information, so they can evaluate their investments. For

example, firms like Standard & Poor’s evaluate the financial strength of large corporations

and the corporations’ ability to repay their debts. Investors have low information costs for

large corporations, increasing their demand for large corporate bonds.

Please note the demand function can shift leftward by the same six factors. You just reverse
the logic for the six factors. For example, an increase in expected inflation causes the demand
function to decrease and shift leftward. Consequently, the bond price falls while the interest rate
rises.
Four factors cause the supply function to shift. We listed them in a way that causes the
supply function to increase and shift rightward in Figure 7. When businesses and governments
issue more bonds, the supply function shifts rightward, causing the equilibrium quantity (Q) to
increase while the bond’s market price (P) falls. When we discount the bond’s price using the
present value formula, then the bond's market interest rate rises.

Figure 7. A supply function increases

Four factors shift the supply function:

 A rise in expected profits increases the bond’s supply function shifting rightward. A

business would borrow and boost its debt to buy assets like machines and equipment if the

business expects larger profits. Usually businesses issue bonds for machines and