Skip to content

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

A bank's risk management team is explaining to the board how economic capital differs from regulatory capital. Which statement best describes economic capital?

Economic capital is the internally estimated amount needed to absorb unexpected losses at a chosen confidence level and horizon, usually tied to the bank's target credit rating. It differs from regulatory capital rules, from expected losses covered by provisions, and from book equity.

  1. AThe minimum capital set by the supervisor using standardized risk weights applied to assets
  2. BThe internally estimated capital needed to absorb unexpected losses at a chosen confidence level over a given horizonCorrect
  3. CThe capital needed to cover expected losses, which are charged through provisions and pricing
  4. DThe book value of shareholders' equity reported on the balance sheet

Explanation

Economic capital is the bank's own estimate of the buffer needed to absorb unexpected losses at a confidence level tied to its target solvency standard (often linked to a desired credit rating). Regulatory capital uses supervisory rules, and expected losses are handled by pricing and provisions, not capital.

Did you get it right without looking?

One question tells you little. A timed set on Risk Capital Attribution and Risk-Adjusted Performance Measurement shows your real accuracy, how long you take and where you lose marks.

Practise Risk Capital Attribution and Risk-Adjusted Performance MeasurementFree diagnostic mock

More Risk Capital Attribution and Risk-Adjusted Performance Measurement questions