How can we realize in an exercise that which of the given interest rates is the interest rate of the home country and which one is the foreign country interest rate? Such as the following example: The rate of exchange for the currency pair USDJPY is 106.800. The interest rate of Japan is 4% while the USA’s is 5%. Apply the rule of IFE and calculate the future spot rate.
To calculate future spot rate, you don't actually need to care which one is the home currency. What you care about is which one is commodity currency and which one is term currency. In this case, the commodity currency is the USD, and the term currency is the Yen. So the IR of Japan is considered as the IR of the term currency You only care about home and foreign currency when considering if this is 'direct or indirect quote' type of questions
It's the other way around. Higher inflation leads to higher interest rates because investors will want to be compensated for lost purchasing power and will require higher interest rates to offset rising prices.
You have to link this video with the Fisher Effect: Nominal IR = Real IR + Inflation. So there you go: higher inflation leads to higher nominal interest rate
They are like two sides of the same coin. Uncovered interest rate parity states that the difference in interest rates between two countries will equal the relative change in the foreign exchange rates over the same period. The International Fisher Effect (IFE) states that the expected disparity between the exchange rates of two currencies is approximately equal to the difference between their countries' nominal interest rates.
