A country's central bank sets interest rates in accordance with its monetary policy - and this will differ from country to country. If a trader is long the currency in the pair with the higher interest rate, then they earn interest on their position. For instance, if the Australian dollar offers 4% and the Japanese Yen offers 0%, traders could buy (long) AUD/JPY to take advantage of the 4% net interest rate differential.

Interest rates refer to the percentage charged or paid for the use of money, usually expressed on an annual basis as a percentage of the principal amount. These rates play a pivotal role in finance and economics, influencing borrowing, lending, investment, and overall economic activity. Central banks or monetary authorities typically set interest rates to achieve economic objectives, such as controlling inflation or stimulating economic growth.

When interest rates are low, borrowing becomes cheaper, encouraging spending and investment. Conversely, higher interest rates can curb inflation but may slow down economic activity as borrowing becomes more expensive. Interest rates impact various financial instruments, including loans, bonds, and savings accounts. Investors and businesses closely monitor interest rate movements, as they can have profound effects on the cost of capital and investment returns. Understanding interest rates is crucial for individuals and businesses alike, as they navigate financial decisions in an ever-changing economic landscape.