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The real risk-free rate is 1.95%. Inflation is expected to be 2.95% this year, 4.75% next...

The real risk-free rate is 1.95%. Inflation is expected to be 2.95% this year, 4.75% next year, and 2.4% thereafter. The maturity risk premium is estimated to be 0.05 × (t - 1)%, where t = number of years to maturity. What is the yield on a 7-year Treasury note? Do not round intermediate calculations. Round your answer to two decimal places.

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Answer #1

Real Risk-free Rate = 1.95%

Inflation Premium = Average Inflation over 7 years
Inflation Premium = [2.95% + 4.75% + 5 * 2.40%] / 7
Inflation Premium = 19.70% / 7
Inflation Premium = 2.81%

Maturity Risk Premium = 0.05 * (t - 1)%, t is number of years to maturity
Maturity Risk Premium = 0.05 * (7 - 1)%
Maturity Risk Premium = 0.30%

Nominal Interest Rate = Real Risk-free Rate + Inflation Premium + Maturity Risk Premium
Nominal Interest Rate = 1.95% + 2.81% + 0.30%
Nominal Interest Rate = 5.06%

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