The Uncovered Interest rate Parity- A Literature Review

Abstract

AttachedInterest rates and exchange rates are considered to be one o f the m ost discussed areas in International Finance. When considering the m ain theories that explore on these two variables, U ncovered Interest Rate Parity (UIP) states that the interest rate differential is an unbiased predictor o f the spot exchange rate changes. The im pact on investors ’ attitude is that they w ould be indifferent towards the returns on dom estic and foreign assets denom inated in same currency thereby elim inating any short term arbitrage profits. Studies o f this nature are ofsignificance in the case o f Sri Lanka, as a country which is trade dependent accurate forecasts o f exchange rates w ould be o f immense importance. H ow e this study focuses on reviewing w hat is revealed by literature so fa r and what is not