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FRM Part I · FRM Exam Part I · Anatomy of the Great Financial Crisis of 2007-2009

Which statement best describes the role of the shadow banking system in amplifying the crisis?

Shadow banking carried out maturity and liquidity transformation, funding long-term assets with short-term borrowing, without deposit insurance or central bank backstops. This made it prone to runs, and forced asset sales and withdrawals spread losses to the wider financial system.

  1. AIt performed maturity and liquidity transformation without deposit insurance or central bank backstops, so funding runs hit it hardCorrect
  2. BIt consisted of regulated deposit-taking banks with access to the discount window
  3. CIt reduced systemic risk by moving credit risk entirely out of the financial sector
  4. DIt held only government securities funded by long-term equity

Explanation

Shadow banks such as conduits, SIVs, and money market funds transformed maturity and liquidity but lacked deposit insurance and lender-of-last-resort access, making them run-prone. The other statements misdescribe their structure or effect.

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