3. Consider two bonds, one issued in Euros in Germany, one issued in dollars in the United States. Assume that both government securities are one-year bonds - paying the face value of the bond one year from now. The exchange rate, E, stands at 1 Euro = $1.46. The face value and prices on the two bonds are given by:

Face Value Price

United States 1-year bond $10,000 $9,615.38

Germany 1-year bond Euros 13,333 Euros 12,698.10

(c) The covered interest parity equation is given by: (1 + iUS) = 1 Et (1 + iGER) Ft+1 where iUS denotes the one-year interest rate in the U.S., and iGER denotes the one year interest rate in Germany. Explain why the covered interest rate parity equation makes sense. Use a well labeled graph to illustrate your arguments. (5 points)

The graph is the only thing I'm not understanding