Final answer:
The equilibrium price and yield of bonds are affected by factors such as interest rates, economic conditions, and issuer credit quality. Price ceilings and usury laws can distort market equilibrium, and price elasticity measures how responsive demand and supply are to price changes. Economists use models to predict market changes, considering both demand and supply shifts.
Step-by-step explanation:
The equilibrium price and yield of bonds in the bond market are determined by several key factors, including interest rates, economic conditions, and the credit quality of the issuer. When interest rates rise, the price of existing bonds typically falls, reflecting an inverse relationship between price and yield. An increase in interest rates can reduce the demand for bonds, as new issues come to market with higher yields, making existing bonds with lower interest rates less attractive. Conversely, if interest rates fall, existing bonds with higher yields become more desirable, driving up their price and reducing the yield.
In addition to interest rates, inflation expectations and economic growth can also influence bond markets. Inflation erodes the real return on bonds, so higher inflation expectations might lead to decreased demand for bonds. Credit quality concerns can shift the supply and demand dynamics for individual issuers or sectors. A deterioration in the issuer's credit quality would typically lead to a decrease in bond prices.
When analyzing the effects of U.S. debt on domestic financial markets, the increased supply of bonds to fund debt could lead to higher interest rates if the demand does not keep pace. Price ceilings and usury laws can disrupt the natural equilibrium of markets. A price ceiling set below equilibrium can lead to a shortage, while a price floor above equilibrium can cause a surplus.
Economists often utilize models that consider both demand and supply shifts to predict changes in equilibrium prices. Movement along the demand or supply curve is triggered by changes in price, while shifts in these curves indicate changes in other factors affecting demand and supply. Price elasticity is important because it measures the responsiveness of quantity demanded or supplied to changes in price, influencing the burden of taxation and the effectiveness of pricing strategies.