Suppose the 3-month interest rate (i) is 4%/year in New York and 8% in Frankfurt, and the $/ FD = 2%/year. A US investor would then invest in Frankfurt by purchasing spot and at the same time selling at the FD = 2%/year, for the net gain of 2%/year (% for the quarter). But as CIA continues the i differential in favor of Frankfurt falls and FD rises until the net gain equals zero ( FR is at interest parity) and CIA ends (actually, CIA comes to an end when the net gains falls to about of 1% - the cost of the entire financial transaction). Exactly how is FR interest parity achieved? What would happen if were FP = 1%/year? 5%/year

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Interest rate parity is a theory in finance that suggests that the difference in interest rates betw... View the full answer