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FRM Part II · FRM Exam Part II · The Financial Stability Implications of Artificial Intelligence

A supervisor reviews a sector where 70% of banks use one of three AI model providers. Which statement best describes why this concentration is a macroprudential rather than purely microprudential concern?

It is macroprudential because a common provider failure or shared model flaw can disrupt many institutions at the same time and drive correlated behaviour or herding. Even well-managed individual firms cannot diversify this away, so the risk is systemic rather than confined to a single firm.

  1. AEach bank's individual vendor contract is legally unenforceable
  2. BA common provider failure or shared model flaw can cause simultaneous, correlated disruption or herding across institutions, even if each firm's own risk management is soundCorrect
  3. CConcentration only affects the vendor's own profitability, not its clients
  4. DConcentration reduces systemic risk because fewer providers are easier to supervise

Explanation

Systemic risk arises because firms' exposures are correlated through common providers: simultaneous outages, shared model errors or cyber compromise hit many at once, and similar model outputs can encourage herding. A firm-level view misses this interconnection. Easier supervision does not offset the correlated-failure channel.

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