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Interest Rates/ Axes/ Slopes

Suppose you hear a commentator on the radio state that when interest rates fall, the stock market [the Dow Jones average say] tends to rise. {NOTE -- the question DOES NOT ask you to justify the statement, only to describe the graph.} Draw a graph of such a relationship for yourself.

a) What are the axes?
b) Describe the slope -- positive or negative? Why?
c) What factors would cause a movement along the graph?
d) What factors might cause a shift in the graph?

Solution Preview

To answer this question, first, you must narrow it down to the pertinent information. Because your instructor said not to justify the statement and only to describe the graph, it is important to think about solely the terms that the question is asking -- and NOT try to make sense of the relationship between the two variables.

I will walk you through my process of understanding this question, so please take out paper and try this with me first. I'm also going to attach my copy of what the graph should look like, and explain it further below, but please try to come up with the same answer along with me.

Simplifying the question, first come up with the two factors that the commentator is describing.
* STOCK MARKET (using the DOW JONES AVERAGE as a proxy [a substitute or indicator, which is not exactly the same, but it is something else that you can use to approximate or simplify understanding the stock market]).

Next, write down the relationship that the commentator states:

Now, you have to come up with the graph of how to portray this graphically (the hard part!). In basic economics, we traditionally place price on the Y axis and quantity on the X axis. Although we don't have a specific price or quantity here, I will choose to place INTEREST RATES on the Y axis, ...

Solution Summary

The value of the stock market is examined.