International Fisher Effect: Difference between revisions
imported>Doug Williamson (Specify that carry trade is FX carry trade.) |
imported>Doug Williamson (Identify links with Expectations Theory and Fisher Effect.) |
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This theory predicts that the spot foreign exchange rate will change over time to reflect and offset differences in interest rates in the respective currencies. | This theory predicts that the spot foreign exchange (FX) rate will change over time to reflect and offset differences in interest rates in the respective currencies. | ||
So for example, unhedged currency depreciation losses will on average negate and match exactly any gains on interest differentials between the two currencies. | So for example, unhedged currency depreciation losses will on average negate and match exactly any gains on interest differentials between the two currencies. | ||
The International Fisher Effect links Expectations Theory in FX markets with the Fisher Effect. | |||
The Fisher Effect predicts that forward FX rates will reflect interest rate differentials. | |||
Expectations Theory predicts that forward FX rates will be reflected - on average - by outturn spot FX rates for the same maturities. | |||
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Among other things, the International Fisher Effect suggests that it should not be possible to earn consistent profits by entering FX carry trade speculations. | Among other things, the International Fisher Effect suggests that it should not be possible to earn consistent profits by entering FX carry trade speculations. | ||
This is because of no-arbitrage theory, which suggests that it should not be possible to earn consistent speculative profits by speculating against Expectations Theory in any market. | |||
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* [[Interest rate parity]] | * [[Interest rate parity]] | ||
* [[No arbitrage conditions]] | * [[No arbitrage conditions]] | ||
* [[Outturn]] | |||
* [[Purchasing power parity]] | * [[Purchasing power parity]] | ||
* [[Spot rate]] | * [[Spot rate]] | ||
Revision as of 16:09, 22 June 2021
This theory predicts that the spot foreign exchange (FX) rate will change over time to reflect and offset differences in interest rates in the respective currencies.
So for example, unhedged currency depreciation losses will on average negate and match exactly any gains on interest differentials between the two currencies.
The International Fisher Effect links Expectations Theory in FX markets with the Fisher Effect.
The Fisher Effect predicts that forward FX rates will reflect interest rate differentials.
Expectations Theory predicts that forward FX rates will be reflected - on average - by outturn spot FX rates for the same maturities.
One way of speculating that spot exchange rate will not change by as much as this, is known as a foreign currency carry trade.
Among other things, the International Fisher Effect suggests that it should not be possible to earn consistent profits by entering FX carry trade speculations.
This is because of no-arbitrage theory, which suggests that it should not be possible to earn consistent speculative profits by speculating against Expectations Theory in any market.
