FRM Part I · FRM Exam Part I · The Governance of Risk Management
A bank's board risk committee is reviewing lessons from crisis-era failures. Management proposes the following changes. Which one would be MOST effective in correcting the problem that business lines approved risks that the firm's overall risk appetite did not support?
A board-approved risk appetite statement cascaded into business limits, enforced by an independent risk function with authority to challenge and escalate breaches, links firmwide appetite to front-line decisions. Self-set limits or revenue-linked CRO pay weaken independence and would not fix the disconnect.
- AHaving each business line set its own risk limits, reviewed annually by that same business line head
- BDefining a board-approved risk appetite statement that is cascaded into limits, with the independent risk function able to challenge and escalate breachesCorrect
- CIncreasing the number of risk metrics reported to the business lines only
- DTying the CRO's compensation primarily to trading revenue so the CRO understands the business
Explanation
The failure is the disconnect between enterprise-level appetite and business-level decisions. A board-approved appetite cascaded into limits, with an independent function empowered to challenge and escalate, closes that gap. Self-set limits and revenue-linked CRO pay undermine independence, and reporting only to business lines does not reach the board.
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