Discuss the implications of the interest rate parity for, Ask an Expert

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Discuss the implications of the interest rate parity for the exchange rate determination.

Answer: Presume that the forward exchange rate is roughly an unbiased predictor of the future spot rate, IRP can be illustrated as:

S = [(1 + I_£)/(1 + I_$)]E[S_t+1|I_t].

So the exchange rate is determined by the relative interest rates, and the supposed future spot rate, conditional on all the accessible information, I_t, as of the present time. So, one can say that expectation is self-fulfilling. As the information set will be constantly updated as news hit the market, the exchange rate will show a highly dynamic, random behavior.

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Financial Management, Finance

Category:- Financial Management
Reference No.:- M9544582

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