Tuesday, September 15, 2009

policy Implications of the segmented-markets theory

The segmented-markets theory, like the expectations theory, has significant implications for public policy. If markets along maturity spectrum are relatively isolated from each other due to investor preferences, government policy makers can alter the shape of the yield curve merely by influencing supply and demand conditions in one or more market segments.
For example, if a positively sloped yield curve were desired, with long-term interest rates higher than short-term rates, the Treasury and the central bank could flood the market with long-term bonds. Simultaneously, the government could purchase large quantities of short-term securities. The expanded supply of bonds would drive long-term rates higher, while purchases of short-term securities would push short-term down, other factors held equal. Therefore, government monetary and debt-management policies could alter the shape of the yield curve.

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