Question 3:

A rise in observed long-term interest rates relative to observed short-term rates

1. makes it advantageous to borrow long-term and lend short-term because greater inflation is expected in the long-run.

2. makes it advantageous to borrow short-term and lend long-term to take advantage of the difference in rates.

3. might well be explained by an expectation of greater inflation rates in the long-run than in the short-run.

4. means that borrowers and lenders value long-term and short-term bonds equally once an adjustment has been made for expected inflation.