Timothy Taylor reads a semi-annual update from the Fed, and is struck that
A divergence has emerged in the interest rates of advanced market economies, between the US and UK on one hand and the euro-zone and Japan on the other.
He produces a chart showing that the ten-year bond rate is about 150 basis points higher in the U.S. and the UK than it is in Germany or Japan. Years ago, Jeff Frankel adapted the Dornbusch overshooting model to say that this sort of thing would imply that the dollar and the pound are expected to fall about 1.5 percent per year for those ten years. This would make those currencies about 15 percent overvalued relative to the “long-run equilibrium,” it that is what we can call the exchange rate expected 10 years from now.
Note that in the short run, interest rate differentials and expected currency movements are tied together by covered interest parity. If I can earn 1.5 percent more on U.S. one-year securities than on one-year German securities, and the futures market were to offer me a one-year dollar/euro contract that assumes no depreciation of the dollar, then I have an arbitrage play of shorting German one-year securities and buying American ones, while buying euros in the futures market to eliminate currency risk.
On a ten-year basis, it tends to be harder to cover your currency risk. So there is, at best, uncovered interest parity.
Just FYI, in practice interest rate parity does not hold between the Yen and other major currencies. You can see that in articles like this one: http://www.bloomberg.com/news/articles/2015-12-01/meet-the-new-currency-arbitrageurs-corporate-treasurers, but also directly from the FX/interest rate data. Even for 3 months, there are enough frictional costs, and enough Japanese investors seeking and FX-hedging foreign investments, to open up a substantial gap.