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FRM Part I · FRM Exam Part I · Country Risk: Determinants, Measures, and Implications

A risk analyst reviewing a country's sovereign rating notes that the government has issued debt in its own currency and also in US dollars. Which statement best describes the typical relationship between the two ratings assigned by agencies?

Local currency sovereign ratings are generally equal to or higher than foreign currency ratings, because a government can tax or create its own currency to repay domestic debt, while foreign currency obligations depend on obtaining scarce hard currency reserves.

  1. ALocal currency ratings are generally equal to or higher than foreign currency ratings because a government can print its own currencyCorrect
  2. BForeign currency ratings are generally higher than local currency ratings because dollar debt is more liquid
  3. CThe two ratings are always identical because default risk does not depend on currency
  4. DLocal currency ratings are always lower because of inflation risk

Explanation

A government can raise taxes or create domestic currency to service local debt, so local currency default risk is usually no higher than foreign currency default risk. Foreign currency debt requires access to scarce hard currency, so its rating is often lower. The other options reverse or deny this relationship.

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