What Drives Dollar Funding Stress in Distress?

Abstract

We study the forces driving dollar funding stress under adverse market conditions for EMEAP economies. We find that the response of dollar funding conditions to changes in macro-financial variables differs significantly between orderly and turbulent markets. In orderly markets, idiosyncratic dollar strength, and its volatility and market expectations, are key factors affecting the stress for the economy. Monetary policy divergence, which to a large extent reflects the position of the economy relative to the US in the economic cycle, also plays an important role in the short-term funding market. In turbulent markets, the effect of these variables except the volatility of dollar strength against individual currencies, which retains a strong influence, diminishes or even vanishes. Instead, the credit worthiness of the government and corporate sectors, which is found to have little impact under normal market conditions, emerges as a major stress determinant, and becomes increasingly influential as adversity intensifies.