Interest Rate Parity

Interest Rate Parity (IRP) is a fundamental no-arbitrage condition in international finance asserting that the difference in interest rates between two countries must equal the difference between the forward exchange rate and the spot exchange rate, thereby ensuring that an investor is indifferent between bank deposits in either currency. This equilibrium prevents risk-free profit opportunities by ensuring that the return on a foreign investment, when hedged back into the domestic currency, is identical to the return on a domestic investment.