Final answer:
The expectations theory of the term structure of interest rates posits that future interest rate expectations determine the current term structure. Market participants use all available information to forecast future rates, affecting the term structure today. Hence, the correct answer is option (c).
Step-by-step explanation:
According to the expectations theory of the term structure of interest rates: c. Expectations about future interest rates determine the current term structure. The theory suggests that the term structure of interest rates is determined by the market's expectations of future interest rates. If the market expects that future short-term interest rates are going to be higher, then long-term interest rates will be higher as well to compensate for the anticipated rise. Conversely, if the market expects future short-term rates to fall, long-term rates will be lower today.
Financial markets contain a myriad of interest rates influenced by the federal funds rate. While monetary policy can influence the entire spectrum of interest rates, ultimately, specific interest rates are set by supply and demand in various markets for lending and borrowing.
In this context, the expectations theory implies that an efficiently functioning market integrates all available information to form expectations about future interest rates, thereby shaping the current term structure of interest rates. Terms such as inflation expectations and rational expectations are also important, as they involve individuals forming forecasts about the future using all available information, impacting economic behavior and the setting of interest rates.