[Anonymous]

Something about this just does not click. If someone would be kind enough to explain it to me, that would be awesome!

My Roger book states factors effecting foreign exchange rates are:

Inflation: The currency with higher inflation will fall in value relative to the other, because holding the currency results in reduced purchasing power.

Interest rates: The currency in the nation with higher interest rates will rise in value, since individuals and companies will be enticed to invest in that country. As a result, there will be increased demand for that country’s currency.

I thought when there is inflation, interest are also high. So when inflation is present, and interest rates are already high, won’t it be more lucrative to hold currency in the inflated country because of high interest?

[barelystayingsane]

Someone please correct me if I'm wrong here, but if you're looking to just invest your money, I would think you would compare real interest rates between countries and not nominal rates. Therefore, if a country had high nominal interest rates but this was only because it was a hyper-inflationary economy, it would not be a good idea to invest in that currency.

[Anonymous]

Thanks!

[Mayo]

If you believe in Interest rate parity it doesn't make a difference?

Or is it Purchasing Power Parity?

Mayo, BBA, Macc

[barelystayingsane]

In the long run, yes, I don't think it would make a difference. But in the short run, you will have deviations from that parity, right?

[Mayo]

Yah, I think you're right.

Mayo, BBA, Macc

[Author]

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