CME Part 2 - looking independently at economic observation - Why would an increase in the short term government rate lead to an appreciation of the fx rate of that currency? Wouldn’t UCIP not predict a depreciation?

[Rhize]

[MikeyF]

You will get an inflow of short term (unhedged) money looking for high savings rates.
The carry trade is to borrow in low interest countries and depoist in high interest.

If sot rates move as interest rate parity models suggest than you interest gains will be wipded out by currency losses.

BUT interest rate parity models are NOT good predictors of future spot rates.

[Okachiang]

The logic is like this:
attractive currency appreciates instantly (lots of money inflow, also called overshooting mechanism ) depreciates in the long run ( to equalize risk-return expected returns among countries due to increasing assets prices and inflation rate in the country with high interest rates which is UIRP stated).

[Rhize]

Thank you