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FRM Part II · FRM Exam Part II · Introduction to Operational Risk and Resilience

A bank's credit officer approves a loan in breach of the delegated lending limit and the borrower later defaults. The bank's loss database must decide how to record this. Which treatment best reflects the boundary between credit and operational risk?

It should be recorded as an operational risk event with a credit consequence, flagged as a boundary event. The root cause is staff breaching lending authority, a people and process failure, while the loss materialised through default. Flagging avoids misclassification and double counting.

  1. ARecord as credit risk only, because a default occurred
  2. BRecord as operational risk only, because default is irrelevant to the cause
  3. CTreat it as operational risk event (limit breach by staff) with a credit risk consequence, flagged as a boundary eventCorrect
  4. DExclude it from both, because the loss is expected

Explanation

The root cause is a failure of people/process (breach of authority), which is operational, while the loss arises through credit default. Such boundary events are typically flagged so they are captured consistently and not double counted in capital.

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