If UIP holds, the foreign interest rate is 6%, and the home currency is expected to appreciate by 2%, then the home interest rate is:
A) 10%.
B) 8%.
C) 4%.
D) 3%.

Question

Quizplus · Accepted Answer

According to the Uncovered Interest Parity (UIP) formula, the home interest rate equals the foreign interest rate plus the expected appreciation rate of the home currency. Therefore, if the foreign interest rate is 6% and the home currency is expected to appreciate by 2%, the home interest rate would be 6% + 2% = 8%. However, there seems to be a mistake in my initial calculation based on the options provided. The correct interpretation of UIP in this context should lead to the conclusion that if the home currency is expected to appreciate, it would typically imply a lower home interest rate compared to the foreign interest rate when considering the expectation of currency appreciation as a factor that influences interest rate differentials. However, without the correct option listed, my explanation aimed to follow the UIP logic but the provided options and my conclusion did not align correctly with the standard UIP formula. The correct application of UIP would indeed suggest adjusting the home interest rate based on the expected appreciation or depreciation of the currency, but the precise answer should directly follow from the given options and the correct interpretation of UIP.

If UIP Holds, the Foreign Interest Rate Is 6%, and the Home