Dollar-euro parity may be justified. But the yen looks cheap as chips

are a Parisian investor trying to decide whether to buy American or European bonds. You compare the yields on offer. A ten-year bond issued by America’s Treasury today offers 3%; German bunds return only 1.2%. But buying American means taking a gamble on the euro-dollar exchange rate. You are interested in the return in euros. The bond issued in Washington will be attractive only if the extra yield exceeds any expected loss owing to swings in currency markets.This thinking, known as “uncovered interest parity” (), explains why the dollar has recently soared against the euro. On July 12th the greenback reached a one-for-one exchange rate with the euro for the first time since 2002. (It has since fallen slightly.) posits that changes in interest rates drive currency movements. If yields on Treasuries rise relative to those on bunds, then the dollar should strengthen until investors expect it to fall over the lifetime of the bonds, so that there is no longer any extra return from buying Treasuries. The Federal Reserve is expected to raise interest rates above 3.5% in 2023, more than twice the rate expected to be reached by the European Central Bank. The dollar has also risen by 20% against the yen in 2022 so far. That is probably because the Bank of Japan is not expected to raise rates above 0.2% in the next three years.