Skip to content

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 derived from its Business Indicator (BI). Which statement best describes how the Internal Loss Multiplier (ILM) is used in the framework?

The ILM scales the Business Indicator Component up or down depending on the bank's own historical loss experience, measured as the loss component relative to the BIC. Operational risk capital is BIC times ILM, so banks with heavier past losses hold more capital.

  1. AIt scales the BIC upward or downward based on the ratio of the bank's historical average loss to its BICCorrect
  2. BIt replaces the BIC for banks in the lowest BI bucket
  3. CIt converts the BI into a currency-neutral measure for cross-border banks
  4. DIt is applied only to losses above the internal loss data collection threshold to compute expected loss

Explanation

Operational risk capital equals BIC multiplied by ILM. The ILM is a function of the loss component (15 times average annual losses over ten years) relative to the BIC, so it adjusts capital for the bank's own loss experience. It does not replace the BIC or convert currencies.

Did you get it right without looking?

One question tells you little. A timed set on Basel III: Finalising Post-crisis Reforms shows your real accuracy, how long you take and where you lose marks.

Practise Basel III: Finalising Post-crisis ReformsFree diagnostic mock

More Basel III: Finalising Post-crisis Reforms questions