vof the investment:

Ee yield gap F. --- ( 1 ± r ) — (1 + r*)—I = (1 + r) — (1 + r*) (1 +

AEe Eo Eo

= (1 + r) — (1 + r* + AEe

+ r*

AEe

) --- r (r* +

AEe E0 (11.69) Eo Eo ) '

where the cross-term r* AEe 1E0 can be ignored because it is of second-order magnitude. Equation (11.69) can be written in continuous time as:

yield gap = r — (r* + ee ), (11.70)

where e -E-: log E, so that e -.- dee I dt =---- Ee IE. Expressions (11.69) and (11.70) are intuitive.

If the domestic currency is expected to appreciate during the period (e < 0), then the domestic cu ings on the bond are e expected. In the case o L:.:ferential is elimin_.

interest parity conditic r = r* + ëe .