An example for the uncovered interest parity condition: Consider an initial situation, where interest rates in the home country (e.g. U.S.) and a foreign country (e.g. Japan) are equal. Except for exchange rate risk, investing in the US or Japan would yield the same return. If the dollar depreciates against the yen, an investment in Japan would become more profitable than a US-investment – in other words, for the same amount of yen, more dollars can be purchased. By investing in Japan and converting back to the dollar at the favorable exchange rate, the return from the investment in Japan, in the dollar terms, is higher than the return from the direct investment in the US. In order to persuade an investor to invest in the US nonetheless, the dollar interest rate would have to be higher than the yen interest rate by an amount equal to the devaluation (a 20% depreciation of the dollar implies a 20% rise in the dollar interest rate).
Technically however, a 20% depreciation in the dollar only results in an approximate rise of 20% in U.S. interest rates. The exact form is as follows: Change in spot rate (Yen/Dollar) equals the dollar interest rate minus the yen interest rate, with this expression being divided by one plus the yen interest rate.