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FRM Part II · FRM Exam Part II · Risk Capital Attribution and Risk-Adjusted Performance Measurement

A bank's risk management team is explaining the purpose of attributing economic capital to individual business units. Which of the following best describes the primary reason for attributing risk capital to business units?

The main purpose of attributing risk capital to business units is to compare their performance on a risk-adjusted basis. Capital allocated in line with the risk each unit takes lets management assess returns, set limits, price products and design incentives consistently across the firm.

  1. ATo allow performance to be compared across units on a basis that reflects the risk each unit takesCorrect
  2. BTo ensure that each unit holds regulatory capital equal to its book equity
  3. CTo replace the need for any enterprise-level capital planning
  4. DTo guarantee that every unit earns the same absolute profit

Explanation

Risk capital attribution links the capital consumed to the risk taken, so that returns can be compared on a risk-adjusted basis and used for pricing, limits and incentives. It does not replace enterprise capital planning, equate to book equity, or equalize profits.

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