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Homework answers / question archive / Explain what will happen to the equilibrium price and equilibrium quantity of bonds in each of the following situations
Explain what will happen to the equilibrium price and equilibrium quantity of bonds in each of the following situations. (If it is uncertain in which direction either the equilibrium price or equilibrium quantity will change, explain why.)
(i) Wealth in the economy increases at the same time that Congress raises the corporate income tax.
(ii) The economy experiences a business cycle expansion.
(iii) The expected rate of inflation increases.
(iv) The federal government runs a budget deficit.
(i) Effect of increase in wealth of economy and increase in corporate taxes on equilibrium price and quantity: Due to increase in economy wealth both equilibrium price and equilibrium quantity of bond will shift towards right. While with increase in corporate tax equilibrium price and equilibrium of bond quantity will shift back which means a decrease in price.
(ii) Effect of business cycle expansion on equilibrium price and equilibrium quantity: When there is an increase in the business expansion the economy wealth will also increase and due to increase in economic wealth the equilibrium price and equilibrium quantity of bond will also increase. But under this situation the expected profitability will also increase which will increase the equilibrium quantity of bond and decrease in the equilibrium price of bond.
(iii) Effect of increase in expected rate of inflation equilibrium price and equilibrium quantity: Due to increase in expected rate of inflation equilibrium will shift to right that will decrease both price equilibrium and quantity equilibrium of bond.
(iv) Effect of budget deficit on equilibrium price and equilibrium quantity: Deficit budget condition implies the increase in the borrowings of the government and due to increase in the borrowings the supply curve will have rightward shift and due to this the equilibrium quantity of bond will increase but the equilibrium price of bond will decrease.
