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FRM Part II · FRM Exam Part II · Basel III: Finalising Post-crisis Reforms

Under the Basel III finalised standardised approach for operational risk, a bank's Business Indicator Component (BIC) is combined with another factor to give the operational risk capital requirement. Which factor is used?

Capital equals the Business Indicator Component times the Internal Loss Multiplier. The multiplier scales capital up or down according to the bank's historical 10-year operational loss experience relative to its BIC. The old 15% gross income factor and internal AMA models were withdrawn under the finalised framework.

  1. AThe Internal Loss Multiplier, which is based on the bank's 10-year average annual loss history relative to its BICCorrect
  2. BA supervisory fixed alpha of 15% of gross income
  3. CThe bank's own advanced measurement approach model output
  4. DThe ratio of risk-weighted assets to total assets

Explanation

Under the finalised framework, operational risk capital equals BIC multiplied by the Internal Loss Multiplier (ILM). The ILM depends on the ratio of average annual losses to the BIC. The 15% of gross income alpha belonged to the superseded Basic Indicator Approach, and AMA models were removed.

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