The Financial Times Guide to Understanding Finance, 2nd Edition

26

Currencies

• A word of caution
• The exchange rate
• The law of one price
• Purchasing power parity
• The Fisher effect
• The international Fisher effect
• Interest rate parity and forward parity
• The big picture

You’re familiar with interest rates and inflation; you’re likely to be familiar with traveling, exchanging money, and exchange rates; and perhaps you’re somewhat less familiar with forward contracts (which are discussed in the previous chapter). In this chapter we’ll bring all these variables together and relate them to each other. And, when so doing, perhaps we’ll understand a bit better their influence on the international flows of capital, a topic of daily coverage in financial newspapers.

A word of caution

The international parity conditions ...