For 9B, I would like to know why lower inflation could associate to the output gap.
For 9D, I would like to know why lower inflation would favor the allocation in gov bond.
Many thanks for help in advance.
Dang Son! you already finished exams 2006 - 2015?
i thought about doing 2016 1st then working my way back too, but i decide to just start at 2009.
Anyways sorry not there yet, but free bump
when there is a *positive output gap… that means economy is running below potential (demand pressures are weak -> lower inflation)… the confusing part is the idea of positive/negative output gap as the definition may appear counter intuative
yes. kind of confusing to me. in general the output gap is potential GDP - the actual GDP. However, in the SR interest rate equation, it’s 0.5x(forecast GDP - trend GDP which i interpret as potential GDP). If the gap is emerging, the economy should be running good instead of poor.
I think it is other way around. Negative gap exist when GDP growing below long term trend (optimal short term interest rate lower than the neutral give inflation pressure on economy).
bump. I’m also looking for an explanation on 9D
I was getting ready to correct you…but you caught me. Always learning!
http://www.imf.org/external/pubs/ft/fandd/2013/09/basics.htm
“A positive output gap occurs when actual output is more than full-capacity output. This happens when demand is very high and, to meet that demand, factories and workers operate far above their most efficient capacity. A negative output gap occurs when actual output is less than what an economy could produce at full capacity. A negative gap means that there is spare capacity, or slack, in the economy due to weak demand.”
9d: Inflation down (Market thinks going to .65, you think .25) = Good for nominal bonds. Remember you are getting a real rate + expected inflation. Expected inflation > Actual, you get more valuable money baby (lets ignore reinvestment risk). Also, inflation down = rates most likely going down = bonds doing better == winning in life dolla dolla bill y’all.
Also, I’m going to say this with fear that S2000 is going to correct me, but GDP crapping out = Good for G bonds along the entire curve (assuming no credit risk!). If you buy short term and stuff goes down, monetary policy coming in to save the day (Thanks Ben!). If you go long-term, the market is going to invert /flatten (all else constant), so long-term rates are going down (less GDP expected in future = lower inflation = lower rates).
Remember on that CME Inflation/Deflation chart
Nominal Bonds:
Inflation > expected 
Inflation = Expected 
Inflation < Expected /Deflation 
thanks! I have to read this some more because I just don’t get econ. I almost want to punt this. If nothing else, i’ll remember your emojis from the above post 
doesn’t this seem contradictory to the solution to Q27 2017 Mock AM though?
https://www.analystforum.com/forums/cfa-forums/cfa-level-iii-forum/91359069
if inflation is lower than expected why would we underweight bonds in this case?
Dang…apparently I don’t know then.
4.6.2 states - to the extent that if Inflation lower then expected or deflation, then bonds are attractive.
4.3 states - As long as inflation stays near it’s expected level, it does not matter for Equity. In their lovely matrix, they say “Inflation expected or < then == Bonds neutral”.
My guess, if I had to be a wizard, is that in the Mock there is no sign of business activity falling, so horray for equities. But in the exam, output gap bad, so falling, hence G bonds are better.
Seeing how 1 is an exam question (legit) and the other is a mock (rejected/ too tough/ ambiguous), I would roll with that. If I had to guess, any actual example will either combine a neutral outlook or GDP crapping out in conjunction.
Thanks, jsnazz. I am sorry if I confused you 
I agree with your reasoning. I spent all morning re-reading the CME chapter, can’t seem to get this stuff drilled in no matter how much I read it.
Yeah…in real life I’m pretty sure if inflation was below expectations that should be good for bonds, and neutral for equity but hey…I’m not a researcher. (Inflation lower than expected, why? People not spending money? Saving more, etc.)
Hi, I have question on 9D, too. Why a slowing economic growth will favor GOV bonds too?
Bump Why a slowing economic growth will favor GOV bonds too
and isnt a lower than expected inflation has a neutral effect on bonds as shown in exhibit 18 in reading 15
Rapid economic growth will imply higher inflation. So non-inflation-indexed govt bonds will underperform as the return depreciates in times of inflation.
A low inflation rate has neutral effect, but a low er inflation rate (characteristics of a slowing economy) will improve performance of govt bonds as the economy goes from high-inflation state to low-inflation state.
can i answer as real GDP forecast shows a negative figure, we can expect a deflation and thus good for bond bad for equity?
Decreasing inflation is consistent with an economic slowdown, hence a larger output gap.
Inflation at or below expectations is good for fixed income because it improves the purchasing power of the income received.