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FRM Part II · FRM Exam Part II · The US Dollar Shortage in Global Banking and the International Policy Response

Which feature of the crisis dynamics explains why the dollar shortage was amplified when US money market funds reduced lending to non-US banks?

Money market funds were major lenders of short-term dollars to non-US banks. Their withdrawal removed a key funding source, forcing banks into FX swap markets and asset sales, which raised dollar demand, widened the basis, and amplified the shortage.

  1. ALower dollar demand from non-US banks meant swap lines were unnecessary
  2. BNon-US banks lost a key source of wholesale dollar funding and had to turn to FX swap markets and sell assets, intensifying dollar demandCorrect
  3. CUS banks were required to hold no reserves, so they could replace the funding
  4. DExchange rate pegs forced central banks to sell their dollar reserves immediately

Explanation

Money market funds were large providers of short-term dollars to non-US banks. When they pulled back, banks sought dollars in the FX swap market and sold assets, pushing up dollar demand and the basis. The other options do not describe the mechanism.

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