The economics of money, banking, and financial markets

C H A P T E R   5   The Behavior of Interest Rates 

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been drawn so that the shift in the supply curve is greater than the shift in the demand 

curve, causing the equilibrium bond price to fall to 

P

2

 and the equilibrium interest rate 

to rise. The reason the figure has been drawn such that a business cycle expansion and 

a rise in income lead to a higher interest rate is that this is the outcome we actually 

see in the data. Figure 7 plots the movement of the interest rate on three-month U.S. 

Treasury bills from 1951 to 2017 and indicates when the business cycle went through 

recessions (shaded areas). As you can see, the interest rate tends to rise during business 

cycle expansions and fall during recessions, as indicated by the supply and demand 

diagram in Figure 6.

APPLICATION    

Explaining Current Low Interest Rates in 

Europe, Japan, and the United States: Low 

Inflation and Secular Stagnation

In the aftermath of the global financial crisis, interest rates in Europe and the United 

States, as well as in Japan, have fallen to extremely low levels. Indeed, as discussed 

in Chapter 4, we have seen that interest rates have even sometimes turned negative. 

Why are interest rates in these countries at such low levels?

16

14

18

12

10

8

6

4

2

0

1950

1960

1970

1980

1990

Interest Rate

 (% annual rate)

2000 2005 2010 2015

1955

1965

1975

1985

1995