Interest Rate Levels and Interest Rate Structure

Before we begin the analyses of this chapter, let us first take a look at the following phenomena concerning interest rates. Figure 15.1 shows interbank lending rates at different times. Apart from interbank lending rates, the interest rates on government bonds, bank deposits and loans are changing as well. Second, even for the same financial instrument, if the maturity is different, the interest rate will also differ. When depositing money in a bank, you may find that the interest rate on five-year deposits is always higher than the interest rate on one-year deposits. More generally, interest rates of bonds issued by the same issuer will differ according to different maturities. The yield to maturity curve of bonds (see Chapter 9) can give a good depiction of interest rate relationships among bonds with different maturities. Normal yield to maturity curve is upward sloping, indicating that the longer the maturity, the higher the rate of return, and vice versa (see Figure 9.2). Third, as we have already seen in Chapter 10, interbank lending rates are also always higher than the repurchase rates for government bonds. Likewise, the interest rates on corporate bonds are also typically higher than the interest rates on government bonds with the same maturities…