Interest Rate Parity

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[julissareyes]

I got it. So when you exchange money countries want to make sure there is no arbitrage(taking advantage of a price difference between two or more markets) so what they want to do is make sure they are equal to each other and they try to make the exchange rate like so. It is important they do this because let's say $1 is 25 lempiras in Honduras, so let USA be domestic and Honduras Foreign. USA has a interest rate of 5% and Honduras 9%. This means that USA interest rate is way too small and needs to appreciate(increase) by a 4% so 5%+4%=9%(more value in the US dollar) or vice versa with lempiras they would expect the US dollar to depreciate by 4% so 9-4=5% like that of lempiras. The whole point is to make prices equal to each other to make sure there is no arbitrage and the interest rate parity makes sure of it by increasing or deecreasing interest rates. Hope this helps.

[ntcuongct]

Dear Friends, I have a question: in IRP (Interest Rate Parity), the base rate of the two currencies is the nominal interest rate or the real interest rate announced by the central banks of the two countries?.