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For the Northern Rock case study, what was the low-probability-high-impact event that was most responsible for the loss event?
Step 1: Understanding the Northern Rock Case Study
Northern Rock was a UK bank that collapsed in 2007 due to its heavy reliance on short-term wholesale funding rather than customer deposits.
When the 2007 financial crisis hit, the inter-bank lending market and commercial paper market froze, cutting off Northern Rock's access to liquidity.
Step 2: Why Option C Is Correct
Northern Rock depended on short-term borrowing to fund long-term mortgage lending.
When the liquidity crisis hit, it couldn't refinance its debt, leading to a bank run and collapse.
The Bank of England had to intervene, and the UK government nationalized Northern Rock in 2008.
Step 3: Why the Other Options Are Incorrect
Option A ('Acquisition of Merrill Lynch') Incorrect because this happened in 2008, after Northern Rock's failure.
Option B ('Withdrawal of Deposit Protection') Incorrect because UK deposit protection remained in place.
Option D ('Real estate exposure in Berlin') Incorrect because Northern Rock's problem was funding liquidity, not real estate losses.
PRMIA Risk Reference Used:
PRMIA Liquidity Risk Management Framework -- Describes how liquidity shocks impact banks like Northern Rock.
Basel III Liquidity Coverage Ratio (LCR) Standards -- Created after Northern Rock to prevent similar liquidity crises.
Final Conclusion:
The collapse of the inter-bank and commercial paper markets was the key low-probability-high-impact event that led to Northern Rock's failure, making Option C the correct answer.
How can a chief risk officer encourage the governing body and executive management team to create a stronger risk culture?
A Chief Risk Officer (CRO) plays a crucial role in shaping and strengthening the risk culture within an organization. PRMIA defines risk culture as the shared values, beliefs, knowledge, and understanding about risk that drive behaviors within an institution.
Setting a Clear Vision
The CRO should communicate a vision of risk management that aligns with organizational goals while ensuring that risk-taking remains within acceptable limits.
The vision should be achievable and realistic, rather than overly ambitious, which could incentivize reckless risk-taking.
Embedding Risk Awareness into Decision-Making
A strong risk culture ensures that risk considerations are embedded into business decision-making rather than treated as a separate compliance exercise.
This is supported by PRMIA's Enterprise Risk Management (ERM) Framework, which stresses integrating risk management into strategy and operations.
Avoiding a Blame Culture
A risk-aware organization promotes accountability without fear, enabling employees to report risks without retribution.
Option B (Discourage personal accountability to avoid a blame culture) is incorrect because personal accountability is essential for a healthy risk culture.
Avoiding a Strict, Prescriptive Approach
A set of rigid objectives that must be followed by the executive team (Option C) does not foster a dynamic, evolving risk culture.
Instead, risk culture should be flexible and adaptive to emerging risks.
Balancing Incentives and Consequences
While balancing rewards with penalties (Option D) is part of governance, a strong risk culture is not built solely through fear of punishment.
PRMIA emphasizes positive reinforcement, such as linking risk management behaviors to performance evaluations and incentives.
PRMIA Reference for Verification
PRMIA Risk Governance Framework -- Discusses the role of leadership in shaping risk culture.
PRMIA Standards on Enterprise Risk Management (ERM) -- Covers best practices for embedding risk culture within organizations.
An example of Credit Risk events with an Operational Risk component included?
Step 1: Understanding Credit Risk with an Operational Risk Component
Credit Risk: Risk of loss due to borrower default.
Operational Risk: Risk of loss due to failed internal processes, fraud, or misconduct.
Step 2: Why Option D is Correct
Ponzi Schemes: Fraudulent investment scams disguise credit risk as legitimate lending but collapse when new funds dry up.
Rogue Trading: Traders take unauthorized risks that can lead to credit defaults or massive financial losses.
Step 3: Why the Other Options Are Incorrect
Option A ('Failure in loan approval process') This is an Operational Risk issue, but does not always create Credit Risk.
Option B ('Ponzi Schemes') Partially correct, but does not include Rogue Trading, which is also a credit risk-related operational failure.
Option C ('Rogue Trading') Partially correct, but does not include Ponzi Schemes, which are another key example.
PRMIA Risk Reference Used:
PRMIA Operational Risk Framework -- Highlights fraud-based Credit Risk events.
Basel II/III Operational Risk Guidelines -- Discusses trading misconduct and credit risk misrepresentation.
Final Conclusion:
Both Ponzi Schemes and Rogue Trading involve credit risk failures caused by operational misconduct, making Option D the correct answer.
Which of the Basel Accords, published in 2004, introduced operational risk as a risk subjected to a capital charge?
Introduction of Operational Risk in Basel Accords
Basel I (1988) Focused only on credit risk and market risk; operational risk was not yet included.
Basel II (2004) Introduced operational risk as a separate category, subject to capital requirements.
Basel III (2010) Strengthened capital and liquidity requirements but did not introduce operational risk.
Basel IV (2017, still evolving) Adjusts Basel III reforms but does not introduce operational risk as a new category.
Why Answer B is Correct
Basel II (2004) was the first to introduce operational risk as a risk requiring a capital charge.
Why Other Answers Are Incorrect
Option
Explanation
A . Basel I
Incorrect -- Basel I focused on credit risk and market risk, with no capital requirements for operational risk.
C . Basel III
Incorrect -- Basel III strengthened Basel II but did not introduce operational risk.
D . Basel IV
Incorrect -- Basel IV refines Basel III but does not introduce operational risk as a new capital charge.
PRMIA Reference for Verification
Basel II (2004) Operational Risk Framework
PRMIA Operational Risk Management Guidelines
Which of the below is a definition of climate risk?
Step 1: Definition of Climate Risk
PRMIA and global financial regulators define climate risk as the financial, operational, and societal risks arising from climate change.
Climate risks impact businesses through physical risks (e.g., floods, wildfires) and transition risks (e.g., regulatory changes, carbon pricing).
Step 2: Why the Other Options Are Incorrect
Option A ('Climate risk has been moved out of all risk taxonomies due to international agreement')
Incorrect because climate risk is now a central part of risk taxonomies, as emphasized by PRMIA, Basel III, and TCFD.
Option B ('Climate risk refers to the growing impacts of credit risk on the business environment')
Incorrect because credit risk is just one aspect of climate risk, not the full definition.
Option C ('Climate risk refers to change in the business climate during a recession')
Incorrect because climate risk is about environmental change, not economic cycles.
PRMIA Risk Reference Used:
PRMIA Climate Risk Guidelines -- Defines climate risk as a financial and societal risk due to climate change.
TCFD (Task Force on Climate-Related Financial Disclosures) -- Outlines regulatory expectations for climate risk management.
Final Conclusion:
Climate risk involves physical and transition risks from climate change, making Option D the correct answer.
