Explaining Determinants of the Supply of Bonds

Just like with any asset or product, there are various factors that can contribute the supply of a particular asset. In the financial markets, there is the same thing. There are various factors that can contribute to changes in the supply of bonds. Some of these factors include:

1. Expected Profitability of The Investment opportunity- The more profitable particular plant investments that a firm expects it can make, the more willing it will be to borrow to finance these investments. This also depends on the particular shape of the economy at the moment, as the chances of a company investing in new things, and wanting to borrow money will increase when the economy is growing and in good shape. If this is the case, then the quality of the bond will increase, as well as the price. Therefore, in economic expansion, the supply of bonds will increase, and the supply curve will shift to the right, which means an increase. The opposite of course is true during a recession, which the supply curve will shift to the left, or decline.

2.  Expected Inflation- the rate of return you’re earning is really equal to the real interest rate, which is the rate of return minus the inflation rate. This is important, because you must include inflation in your investment returns, as this is really something you’re losing anyway, as the value of each dollar goes down. Typically, when the expected inflation increases, the real cost of borrowing falls, which increases the quantity of bonds being supplied by the firms. Therefore, an expected increase in inflation will result in the supply of bonds to increase, as well as for the supply curve to shift to the right.

3.  Government Budget- The activities of the Government can greatly affect the supply of bonds, and can actually greatly affect the economy as a whole. The government can affect the supply of bonds in many different ways. The U.S. Treasury bonds to finance budget deficits for the Government, which depend on whether or not the government is spending more than its taking in(which is almost 100% of the time). The more these deficits increase, the more likely the Government is to issue bonds.  Therefore, the higher the budget deficit, the higher the supply of Government bonds. On the contrary, the higher the budget surplus, the lower the supply of government bonds, as the government doesn’t need money to be loaned to them.  

As you can see, there are many different factors that change the supply of bonds in the financial markets. There are always many different factors in financial markets, which can change things constantly, so it’s important to stay on top of your finances.