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Answer: Incorporate a set of escalation procedures into the bank's contingency plan for its economic capital policy.
The correct answer is C, which suggests incorporating a set of escalation procedures into the bank's contingency plan for its economic capital policy. This is in line with the text's recommendation that a capital policy should include governance and escalation protocols that are clear, credible, and actionable in the event an actual or projected capital ratio target is breached. This ensures that there is a structured approach to address any issues related to the bank's economic capital. Option A is incorrect because the responsibility for challenging assumptions in capital models and providing final approval should lie with the board of directors, not business unit managers. The economic capital group and the board should decide on the plan for each business unit. Option B is incorrect because summing exposures for different risk types without considering diversification benefits can lead to an overly conservative calculation of the bank's aggregate economic capital. Option D is incorrect because the use of third-party vendor models for stress testing economic capital models is not discouraged. Instead, banks are encouraged to tailor these scenarios to their specific risk profiles and unique vulnerabilities, as long as they follow the provided guidelines.
Author: LeetQuiz Editorial Team
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A large bank's internal auditor is reviewing the institution's economic capital framework to ensure compliance with industry best practices. During this assessment, the auditor identifies deficiencies in the bank's governance structure as well as in the methodology used for calculating the firm's overall economic capital. In response, the auditor asks the Chief Risk Officer to suggest corrective actions that conform to established best practices.
A
Require business unit managers to challenge the assumptions for their unit's capital model before providing final approval.
B
Calculate the bank's aggregate economic capital by summing its exposures for different risk types.
C
Incorporate a set of escalation procedures into the bank's contingency plan for its economic capital policy.
D
Discourage the use of macroeconomic scenarios developed by third-party vendors to stress test economic capital models.
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