<p>Interest Rate Parity (IRP) is a macroeconomic theory that suggests the exchange rate between two currencies should reflect the difference in their respective interest rates. In other words, IRP posits that the interest rate differential between two countries should be offset by the forward exchange rate.</p>

<h2>How It Works</h2>
<p>The IRP theory can be expressed mathematically as:</p>
<p><strong>Spot Rate + Domestic Interest Rate = Forward Rate + Foreign Interest Rate</strong></p>
<p>Here's a simple breakdown:</p>
<ul>
  <li><strong>Spot Rate</strong>: The current exchange rate between two currencies.</li>
  <li><strong>Domestic Interest Rate</strong>: The interest rate in the domestic country.</li>
  <li><strong>Forward Rate</strong>: The exchange rate agreed upon today for a transaction to occur at a future date.</li>
  <li><strong>Foreign Interest Rate</strong>: The interest rate in the foreign country.</li>
</ul>

<h2>Why It Matters</h2>
<p>IRP matters for several reasons. Firstly, it provides a framework for understanding and predicting exchange rate movements based on interest rate differentials. Secondly, it has practical implications for international investors. For instance, if the interest rate in Country A is higher than in Country B, IRP suggests that the currency of Country A should depreciate to make up for the higher interest rate.</p>
<p>However, it's important to note that IRP is a theory and its assumptions may not always hold true in reality. Factors like transaction costs, taxes, and political risks can disrupt IRP. Therefore, while IRP provides a useful starting point for understanding exchange rate dynamics, it should be used in conjunction with other economic indicators.</p>