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FRM Part I · FRM Exam Part I · The Governance of Risk Management

A bank's risk function reports to the head of the business line it monitors, and its compensation depends on that business line's profits. Which governance weakness does this arrangement most directly create?

The arrangement compromises the independence of the risk function. Because it reports to and is paid from the profits of the unit it monitors, it faces a conflict of interest and cannot provide effective challenge to risk-taking.

  1. ACompromised independence of the risk function, weakening effective challengeCorrect
  2. BExcessive centralization of risk data
  3. COverly conservative risk appetite across the firm
  4. DDuplication of the board's audit committee duties

Explanation

Risk management must be independent of the revenue-generating units to challenge risk-taking. Reporting to and being paid from the business line's profits creates a conflict of interest that undermines that independence. The other options do not follow from the described arrangement.

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