Skip to content

FRM Part I · FRM Exam Part I · The Building Blocks of Risk Management

A bank estimates that the 99.9% worst-case annual credit loss on a portfolio is USD 95 million, while the expected loss is USD 30 million. Using the definition of economic capital as the worst-case loss at the confidence level minus expected loss, what is the economic capital?

Economic capital is the 99.9% worst-case loss less the expected loss, so USD 95 million minus USD 30 million equals USD 65 million. Expected loss is already covered by provisions and pricing, so capital only needs to cover the unexpected portion.

  1. AUSD 125 million
  2. BUSD 30 million
  3. CUSD 95 million
  4. DUSD 65 millionCorrect

Explanation

Economic capital (credit VaR in excess of expected loss) = 95 - 30 = USD 65 million, since expected loss is already covered by pricing and provisions. Using USD 95 million ignores that adjustment, and adding gives USD 125 million, a sign error.

Did you get it right without looking?

One question tells you little. A timed set on The Building Blocks of Risk Management shows your real accuracy, how long you take and where you lose marks.

Practise The Building Blocks of Risk ManagementFree diagnostic mock

More The Building Blocks of Risk Management questions