Part 1What will happen in the bond market if the government imposes a limit on the amount of daily transactions? Which characteristic of an asset would be affected? A. Riskiness of bonds relative to other assets will decrease, increasing the interest rate and increasing bond's prices. B. Liquidity of bonds relative to other assets will increase, decreasing the interest rate and lowering bond's prices. C. Liquidity of bonds relative to other assets will decrease, increasing the interest rate and lowering bond's prices. D. Riskiness of bonds relative to other assets will increase, decreasing the interest rate and increasing bond's prices.

Question

Part 1What will happen in the bond market if the government imposes a limit on the amount of daily​ transactions? Which characteristic of an asset would be​ affected? A. Riskiness of bonds relative to other assets will​ decrease, increasing the interest rate and increasing​ bond's prices. B. Liquidity of bonds relative to other assets will​ increase, decreasing the interest rate and lowering​ bond's prices. C. Liquidity of bonds relative to other assets will​ decrease, increasing the interest rate and lowering​ bond's prices. D. Riskiness of bonds relative to other assets will​ increase, decreasing the interest rate and increasing​ bond's prices.

BlackTom AI · Accepted Answer

The question asks what would happen in the bond market if the government imposes a limit on daily transactions, and which asset characteristic would be affected.
Option A: 'Riskiness of bonds relative to other assets will decrease, increasing the interest rate and increasing bond's prices.' At first glance, a reduction in riskiness would typically lower the required yield, which would tend to increase bond prices, not cause both an increase in interest rates and prices simultaneously. The combination of increasing rates with rising prices is inconsistent with standard bond pricing: higher rates would push prices down. Therefore this option is incorrect due to competing effects that don’t align.
Option B: 'Liquidity of bonds relative to other assets will increase, decreasing the interest rate and lowering bond's prices.' Increasing liquidity generally lowers liquidity risk and can lower required returns, which would tend to raise prices, not lower them. The claim that prices fall when liquidity rises is inconsistent with the usual inverse relationship between price and yield. Hence this option is incorrect because it mismatches the typical bond price response to higher liquidity.
Option C: 'Liquidity of bonds relative to other assets will decrease, increasing the interest rate and lowering bond's prices.' A reduction in liquidity makes trading bonds harder, raising liquidity risk and the required return, which translates to higher interest rates and lower prices. This option aligns with the standard behavior: lower liquidity → higher yields → lower prices. It is internally coherent and matches fundamental market dynamics under liquidity constriction, making it a plausible correct choice.
Option D: 'Riskiness of bonds relative to other assets will increase, decreasing the interest rate and increasing bond's prices.' An increase in riskiness would typically raise the required yield, not decrease it, which would push prices down rather than up. This option presents an illogical pairing of increased risk with decreased interest rates and higher prices, so it is not consistent with conventional bond pricing theory.
In summary, each option presents a different combination of liquidity/risk changes and resulting yield/price movements. The only configuration that coherently matches the standard relationship—lower liquidity leading to higher yields and lower prices—is Option C, while Options A, B, and D contain inconsistencies between the stated asset characteristic changes and the resulting price/interest-rate effects.

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