During the Carter administration, long-term US Treasury yields exceeded 15%, and

Question

During the Carter administration, long-term US Treasury yields exceeded 15%, and short-term T-Bills yielded near 20%. After Reagan's inauguration, interest rates began to fall as Fed Chairman Volcker's restrictive monetary policy succeeded in containing inflation. Over the past 25 years, US rates have steadily declined: T-Bills are hovering under 1% and the long bond is yielding about 4%.

Lately, though, rising oil prices have incited inflationary forces. China and other developing nations have increased their consumption for oil, metals, materials, and food. Thus, both foreign and domestic factors have spurred demand and are contributing to rising prices on a global scale. In addition to this commodity-induced inflation, US consumers are faced with rising costs for essential services such as healthcare and education.

The Chairman of the Federal Reserve, Ben Bernanke, is faced with a dilemma. Should the Fed increase rates to contain inflation; or, should the Fed keep rates very low to spur the US economy which is beset by a collapse in home values, an extensive banking crisis, and a faltering stock market ?

If the Fed decides to raise interest rates next year, what effect would rising rates have upon the present and future values of annuities?

Explanation / Answer

Chairman of the Federal Reserve should raise the interest rate because the prices in the economy is rising andin any country the primary role of federal bank is to control for inflation. Its role is also to check for growth in the country but the main role is to control the inflation and for controlling inflation he should rate interest rate in the economy and for spurring the econoy other basic things liking increasing jobs in the country or increasing the infrastracture work will create jobs and increase the transaction of money in the economy and hence will create growth

PV of the annuities will decrease because the interest rate is inversly proportional to value of annuities and future value will increase because the interest rate is directly proportional to value of annuities

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