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FRM Part II · FRM Exam Part II · Global Financial Stability Report, April 2025, Chapter 2 (Geopolitical Risk)

A bank's risk team compares how a geopolitical shock transmits to asset prices in two countries. Country A has a high share of foreign-currency debt and thin reserves; Country B has mostly local-currency debt and large reserves. Which outcome is most consistent with the financial stability analysis of geopolitical risk?

Country A is likely to see greater sovereign spread widening and currency depreciation. Foreign-currency debt and low reserves amplify transmission of geopolitical shocks, whereas Country B's local-currency borrowing and large reserves act as buffers that dampen the market response.

  1. ACountry A is likely to see larger sovereign spread widening and currency depreciation than Country BCorrect
  2. BCountry B is likely to see larger spread widening because reserves attract speculative selling
  3. CBoth countries see identical effects because geopolitical shocks are global
  4. DCountry A benefits from safe-haven inflows because of its foreign-currency debt

Explanation

Vulnerabilities such as foreign-currency debt and low reserves amplify the transmission of geopolitical risk into spreads and exchange rates. Strong buffers in Country B dampen the response. Shocks are not uniform across countries.

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