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Question 1Banking Regulation and Supervisory Framework

Under the Basel III capital framework, which instrument qualifies as Additional Tier 1 capital only if it has no maturity date and includes a contractual write-down or conversion trigger at a specified Common Equity Tier 1 ratio?

  1. General provisions held against unidentified losses
  2. Perpetual non-cumulative preference shares meeting the Tier 1 criteria Correct answer.
  3. Subordinated term debt with a minimum original maturity of five years
  4. An irrevocable committed credit line from a sovereign

Explanation

Additional Tier 1 instruments must be perpetual, have fully discretionary non-cumulative dividends, and contain a trigger that converts to Common Equity Tier 1 or writes the instrument down when the CET1 ratio falls to a specified level (commonly 5.125%). Subordinated term debt is Tier 2 by nature because it has a fixed maturity.

Question 2Banking Regulation and Supervisory Framework

Which body issues the Core Principles for Effective Banking Supervision that national supervisors are assessed against through the IMF/World Bank ROSC programme?

  1. The International Organization of Securities Commissions
  2. The Basel Committee on Banking Supervision Correct answer.
  3. The Financial Stability Board
  4. The Bank for International Settlements Innovation Hub

Explanation

The Basel Committee on Banking Supervision publishes the Core Principles for Effective Banking Supervision, which set out the minimum standards for a supervisory regime. The IMF and World Bank use these Core Principles when conducting Financial Sector Assessment Programme reviews.

Question 3Banking Regulation and Supervisory Framework

A bank's total risk-weighted assets are 200 billion and its Common Equity Tier 1 capital is 9 billion. What is its CET1 ratio, and does it meet the Basel III minimum of 4.5 percent?

  1. 4.0 percent, which falls short of the minimum
  2. 9.0 percent, which doubles the minimum
  3. 5.0 percent, which comfortably exceeds the minimum
  4. 4.5 percent, which just meets the minimum Correct answer.

Explanation

The CET1 ratio equals CET1 capital divided by risk-weighted assets, so 9/200 equals 4.5 percent. This exactly equals the Basel III minimum CET1 requirement, though it would still need to satisfy the capital conservation buffer to avoid distribution restrictions.

Question 4Banking Regulation and Supervisory Framework

In the Basel framework, which category of risk captures losses from inadequate or failed internal processes, people, systems, or external events, including legal risk?

  1. Credit risk
  2. Operational risk Correct answer.
  3. Liquidity risk
  4. Market risk

Explanation

Operational risk is defined in the Basel framework as the risk of loss resulting from inadequate or failed internal processes, people and systems, or from external events. The definition explicitly includes legal risk but excludes strategic and reputational risk.

Question 5Banking Regulation and Supervisory Framework

Which committee within a bank typically holds the primary responsibility for approving the institution's risk appetite statement and overseeing the internal capital adequacy assessment process?

  1. The asset and liability committee
  2. The remuneration committee
  3. The internal audit committee
  4. The board risk committee Correct answer.

Explanation

The board risk committee is charged with overseeing the risk management framework, approving the risk appetite, and reviewing the ICAAP on behalf of the board. ALCO focuses on balance sheet and liquidity management, while audit and remuneration committees have different mandates.

Question 6Banking Regulation and Supervisory Framework

Under the Basel liquidity standards, which metric requires a bank to hold sufficient high-quality liquid assets to survive a 30-day stress scenario?

  1. The Liquidity Coverage Ratio Correct answer.
  2. The leverage ratio
  3. The capital conservation buffer
  4. The Net Stable Funding Ratio

Explanation

The Liquidity Coverage Ratio requires a stock of high-quality liquid assets sufficient to cover net cash outflows over a 30-calendar-day stress period. The Net Stable Funding Ratio instead addresses structural funding over a one-year horizon.

Question 7Banking Regulation and Supervisory Framework

Which document issued by the Basel Committee sets out the expectation that banks should have a robust governance framework with clear lines of responsibility and effective board oversight?

  1. The Net Stable Funding Ratio disclosure standard
  2. The Corporate Governance Principles for Banks Correct answer.
  3. The Basel III leverage ratio framework
  4. The standardised approach for credit risk

Explanation

The Corporate Governance Principles for Banks addresses board responsibilities, senior management, risk management and internal controls. The other documents are technical capital or liquidity standards rather than governance guidance.

Question 8Banking Regulation and Supervisory Framework

In prudential supervision, what is the purpose of the supervisory review and evaluation process (SREP)?

  1. To determine the deposit insurance premium for each account holder
  2. To approve individual retail loan applications above a threshold
  3. To assess a bank's capital, liquidity, governance and risk management and set institution-specific requirements Correct answer.
  4. To calculate the minimum leverage ratio for all banks in a jurisdiction

Explanation

SREP evaluates a bank's risk profile across capital, liquidity, governance and controls, and leads to institution-specific supervisory measures such as additional capital requirements. It is a forward-looking assessment rather than a mechanical ratio calculation.

Question 9Banking Regulation and Supervisory Framework

A supervisor requires a bank to add a countercyclical capital buffer of 1 percent of risk-weighted assets. Which outcome does this requirement most directly produce?

  1. An exemption from the liquidity coverage ratio
  2. An increase in the CET1 capital the bank must hold, which can be released during a downturn Correct answer.
  3. A permanent reduction in the bank's risk-weighted assets
  4. A reduction in the bank's minimum leverage ratio requirement

Explanation

The countercyclical capital buffer is an extension of the capital conservation buffer, expressed as a percentage of risk-weighted assets, that builds capital in good times and can be released to support lending during stress. It does not alter the leverage ratio or liquidity rules.

Question 10Banking Regulation and Supervisory Framework

Which of the following best describes the role of the Basel Committee's standards in national rulemaking?

  1. They are directly enforceable court judgments in every member jurisdiction
  2. They replace the need for national supervisory authorities
  3. They apply only to non-bank financial institutions
  4. They are international standards that jurisdictions implement through their own binding laws and regulations Correct answer.

Explanation

Basel standards are not self-executing; they gain legal force only when transposed into national law or regulation by each jurisdiction. Implementation may differ in detail, which is why the Committee monitors regulatory consistency across members.

Question 11Banking Regulation and Supervisory Framework

Under the Basel III leverage ratio, a bank has Tier 1 capital of 12 billion and total exposure of 400 billion. What is the leverage ratio and does it meet the 3 percent minimum?

  1. 4.0 percent, which exceeds the minimum
  2. 3.0 percent, which meets the minimum Correct answer.
  3. 2.5 percent, which falls below the minimum
  4. 12.0 percent, which greatly exceeds the minimum

Explanation

The leverage ratio is Tier 1 capital divided by total exposure measure, so 12/400 equals 3.0 percent. This exactly meets the Basel III minimum leverage ratio of 3 percent, though jurisdictions may impose a higher buffer for systemic banks.

Question 12Banking Regulation and Supervisory Framework

Which of the following is a key element of the Basel Committee's principles for the supervisory review process under Pillar 2?

  1. Supervisors should set a uniform capital charge for all banks regardless of risk profile
  2. Supervisors should eliminate internal models and rely solely on external ratings
  3. Supervisors should guarantee bank profits during economic downturns
  4. Supervisors should require banks to hold capital above the minimum for risks not fully captured by Pillar 1 Correct answer.

Explanation

Pillar 2 requires supervisors to evaluate whether a bank's capital is adequate for risks such as concentration, interest rate risk in the banking book and strategic risk that Pillar 1 may not fully capture, and to impose additional requirements where needed. It is inherently institution-specific.

Question 13Banking Regulation and Supervisory Framework

Which type of risk is specifically addressed by the Basel interest rate risk in the banking book (IRRBB) standard?

  1. Risk of a sudden deposit run triggered by reputational damage
  2. Risk to a bank's capital and earnings from changes in interest rates affecting non-trading positions Correct answer.
  3. Risk from fluctuations in foreign exchange rates on trading positions
  4. Risk of loss from counterparty default on derivative contracts

Explanation

The IRRBB standard addresses the risk that changes in interest rates affect a bank's banking book positions and therefore its capital and earnings. It uses measures such as economic value of equity and net interest income sensitivity.

Question 14Banking Regulation and Supervisory Framework

A supervisor discovers that a bank has been understating risk-weighted assets by misclassifying exposures. Which supervisory response is most consistent with the Basel framework?

  1. Reduce the bank's disclosure obligations to avoid market confusion
  2. Immediately revoke the bank's deposit insurance
  3. Require corrective action, impose additional capital or remedial measures, and consider enforcement action Correct answer.
  4. Automatically transfer the bank's loan book to a competitor

Explanation

The Basel framework expects supervisors to have powers to require corrective action and impose sanctions where a bank's capital or reporting is inaccurate. Remedial measures may include additional capital requirements, restrictions and enforcement.

Question 15Banking Regulation and Supervisory Framework

Which of the following instruments is designed to absorb losses at the point of non-viability and is a feature of the total loss-absorbing capacity (TLAC) standard for global systemically important banks?

  1. Ordinary shares held by retail investors only
  2. Central bank emergency liquidity assistance
  3. Eligible bail-in debt and regulatory capital instruments meeting TLAC criteria Correct answer.
  4. Short-term interbank deposits

Explanation

TLAC requires G-SIBs to hold sufficient loss-absorbing and recapitalisation capacity, comprising regulatory capital plus eligible bail-in debt. These instruments can be written down or converted to equity at the point of non-viability to recapitalise the bank.

Question 16Banking Regulation and Supervisory Framework

In the Basel framework, what is the primary purpose of the capital conservation buffer?

  1. To replace the minimum CET1 requirement
  2. To fund deposit insurance schemes
  3. To set a maximum limit on a bank's dividend payments at all times
  4. To restrict distributions when a bank's capital falls within the buffer range Correct answer.

Explanation

The capital conservation buffer sits above the minimum requirements and imposes graduated restrictions on dividends, buybacks and discretionary bonuses when a bank's capital falls into the buffer range. It is designed to encourage capital build-up outside stress periods.

Question 17Banking Regulation and Supervisory Framework

Which statement best captures the difference between the standardised approach and the internal ratings-based approach to credit risk?

  1. The standardised approach relies on internal models, while the IRB approach uses external ratings
  2. The standardised approach uses supervisory risk weights, while the IRB approach uses a bank's own estimates subject to supervisory approval Correct answer.
  3. The standardised approach applies only to trading book exposures, while the IRB applies only to banking book exposures
  4. The standardised approach eliminates capital requirements, while the IRB imposes them

Explanation

Under the standardised approach, risk weights are prescribed by the supervisor based on exposure class and external ratings where permitted. Under the IRB approach, banks use their own estimates of probability of default and loss given default, subject to supervisory approval and floors.

Question 18Banking Regulation and Supervisory Framework

A bank's internal audit function reports directly to the audit committee of the board. Why is this reporting line significant under supervisory governance expectations?

  1. It transfers supervisory responsibility from the regulator to the bank
  2. It allows internal audit to approve the bank's credit policy
  3. It enables internal audit to set the bank's risk appetite
  4. It preserves the independence of internal audit from management it is required to assess Correct answer.

Explanation

Supervisory governance principles emphasise that internal audit must be independent of the business lines and management it reviews, with a reporting line to the audit committee. This structure supports objective assurance over the control environment.

Question 19Banking Regulation and Supervisory Framework

Which of the following is a characteristic of a systemically important bank designation under the Basel framework?

  1. It is excluded from liquidity standards
  2. It is subject to additional loss absorbency requirements and enhanced supervision reflecting its systemic footprint Correct answer.
  3. It may apply lower risk weights to all exposures
  4. It is exempt from the leverage ratio requirement

Explanation

G-SIBs are identified using an indicator-based methodology and are subject to higher loss absorbency requirements and enhanced supervisory expectations. The designation reflects the bank's systemic footprint and the potential impact of its failure.

Question 20Banking Regulation and Supervisory Framework

A supervisor is assessing whether a bank's recovery and resolution planning is adequate. Which element is most central to the resolvability assessment under the FSB Key Attributes?

  1. The existence of a credible resolution strategy and the ability to execute it without severe systemic disruption or taxpayer bailout Correct answer.
  2. The number of retail branches operated by the bank
  3. The bank's historical profitability record over the previous decade
  4. The bank's marketing strategy for new deposit products

Explanation

The FSB Key Attributes require resolution regimes that allow authorities to resolve a failing bank without severe systemic disruption and without exposing taxpayers to loss. Resolvability assessments focus on credible strategies, operational continuity and loss absorption.

Question 21Banking Regulation and Supervisory Framework

Under the Basel market risk framework, which approach allows a bank to use its own internal models to calculate market risk capital, subject to supervisory approval and backtesting?

  1. The standardised approach
  2. The simplified approach
  3. The external ratings approach
  4. The internal models approach Correct answer.

Explanation

The internal models approach permits banks to use approved value-at-risk or expected shortfall models for market risk capital, conditioned on supervisory approval and backtesting performance. The standardised approach instead applies prescribed supervisory parameters.

Question 22Banking Regulation and Supervisory Framework

A bank reports a large one-off trading loss caused by a rogue trader who circumvented internal limits. Which supervisory concern does this most directly raise?

  1. Inadequate liquidity coverage under a 30-day stress
  2. Weaknesses in operational risk controls and the effectiveness of the internal control environment Correct answer.
  3. Excessive concentration in the bank's sovereign exposure
  4. Insufficient Common Equity Tier 1 relative to risk-weighted assets

Explanation

Unauthorised trading that circumvents limits points to failures in operational risk management, including segregation of duties, limit monitoring and surveillance. Supervisors would focus on the internal control environment and may require remediation or additional capital.

Question 23Banking Regulation and Supervisory Framework

Which statement accurately describes the treatment of expected credit losses under the Basel credit risk framework when a bank uses the internal ratings-based approach?

  1. Expected loss is treated as market risk rather than credit risk
  2. Provisions are never compared with expected loss under the IRB approach
  3. The IRB capital formula addresses unexpected loss, while expected loss is covered through provisions and a deduction or add-on mechanism Correct answer.
  4. Expected loss is ignored entirely under the IRB approach

Explanation

Under the IRB approach the capital formula is calibrated to unexpected loss, while expected loss is handled through the provisioning framework and a comparison of eligible provisions against expected loss, with any shortfall deducted from capital. This avoids double counting between provisions and capital.

Question 24Banking Regulation and Supervisory Framework

A bank uses the internal ratings-based approach and its own estimates of probability of default. Which supervisory safeguard ensures that model outputs do not produce inappropriately low capital requirements?

  1. The replacement of risk-weighted assets with total assets
  2. The application of input floors and a capital floor based on the standardised approach Correct answer.
  3. The complete elimination of supervisory review once a model is approved
  4. The automatic exemption from Pillar 2 requirements

Explanation

The Basel framework imposes input floors on IRB parameters and a capital floor that limits how far modelled capital can fall below the standardised approach. These safeguards address model risk and prevent excessive capital reduction from optimistic estimates.

Question 25Banking Regulation and Supervisory Framework

A supervisor applies the Basel principles for effective banking supervision and finds that a bank's board has delegated risk appetite approval entirely to a management committee. Which principle is most directly engaged?

  1. The principle governing the use of external credit assessment institutions
  2. The principle requiring supervisors to set minimum liquidity ratios
  3. The principle on cross-border information sharing between supervisors
  4. The principle requiring the supervisor to set expectations for sound corporate governance and board oversight Correct answer.

Explanation

The Core Principles require supervisors to promote and enforce sound corporate governance, including clear board responsibility for strategy and risk appetite. Delegating risk appetite approval entirely to management undermines board accountability and engages this governance principle.

Question 26Banking Regulation and Supervisory Framework

Under the Basel Framework, what is the minimum Common Equity Tier 1 (CET1) capital requirement that a bank must meet at all times, before any buffers are applied?

  1. 4.5% of risk-weighted assets Correct answer.
  2. 8% of risk-weighted assets
  3. 2% of risk-weighted assets
  4. 6% of risk-weighted assets

Explanation

The Basel III minimum CET1 requirement is 4.5% of risk-weighted assets. This is the base layer before the capital conservation buffer, countercyclical buffer, and any G-SIB or D-SIB surcharge are added. It is distinct from the total capital requirement of 8%, which includes Tier 1 and Tier 2 components.

Question 27Banking Regulation and Supervisory Framework

A bank operates a branch in a host jurisdiction. Under the Basel Committee's principles for cross-border supervision, which authority is primarily responsible for the consolidated supervision of the bank's global operations?

  1. The Basel Committee itself
  2. The host supervisor where the branch is located
  3. The host supervisor for liquidity and the home supervisor for capital
  4. The home supervisor of the legal entity Correct answer.

Explanation

The home supervisor is responsible for consolidated supervision of the banking group, including its foreign branches and subsidiaries. Host supervisors supervise local operations and cooperate with the home supervisor, but the consolidated view rests with the home authority. This division is a core element of the Basel Concordat and the Committee's cross-border principles.

Question 28Banking Regulation and Supervisory Framework

A bank's board has delegated its risk oversight to a management committee that reports only to the CEO. Which Basel Committee principle for corporate governance is most directly compromised by this arrangement?

  1. The principle that the bank should disclose its remuneration policy
  2. The principle that the bank should have a code of conduct for employees
  3. The principle that the board should actively oversee the bank's risk management framework Correct answer.
  4. The principle that the bank should maintain a robust internal audit function

Explanation

Basel corporate governance principles require the board to actively oversee the risk management framework and not to delegate that responsibility in a way that insulates it from risk information. A committee reporting only to the CEO removes board visibility and oversight. Disclosure, audit, and conduct are separate governance expectations and are not the primary issue here.

Question 29Banking Regulation and Supervisory Framework

A supervisor is reviewing a bank's compliance with the Basel large exposures framework. The bank has an exposure to a single counterparty that exceeds the 25% of Tier 1 capital limit. Which supervisory response is most consistent with the framework?

  1. Allow the excess if it arises from a short-term interbank placement of less than one month
  2. Require the bank to reduce the exposure or hold additional capital against the excess Correct answer.
  3. Treat the excess as a market risk position and apply the standardised market risk charge
  4. Permit the excess indefinitely if the counterparty is rated investment grade

Explanation

The large exposures framework sets a hard limit of 25% of Tier 1 capital for exposures to a single counterparty or group of connected counterparties. A breach requires the bank to reduce the exposure or, where permitted, hold additional capital, and supervisors may impose further measures. Investment grade status and short-term interbank exemptions do not override the limit in the way described.

Question 30Banking Regulation and Supervisory Framework

A jurisdiction applies the Basel Framework through national rules. A bank argues that because a Basel standard is not directly binding, it may follow an older domestic rule that is less stringent. How should the supervisor respond?

  1. Refer the matter to the Basel Committee for a binding interpretation
  2. Explain that national implementation is expected to be at least as stringent as the Basel standard, and enforce the domestic rule accordingly Correct answer.
  3. Require compliance with the domestic rule only if it has been notified to the Basel Committee
  4. Accept the argument because Basel standards are not self-executing

Explanation

Basel standards are not self-executing, but member jurisdictions commit to implementing them through national law in a manner that is at least equivalent and not less stringent. The supervisor enforces the domestic rule, which should reflect that commitment. The Basel Committee does not issue binding interpretations for individual banks.

Question 31Capital Adequacy and Basel Accords

Under the Basel III framework, which component of capital is designed to absorb losses on a going-concern basis and consists primarily of common shares and retained earnings?

  1. Additional Tier 1 capital
  2. Common Equity Tier 1 capital Correct answer.
  3. Total regulatory capital buffer
  4. Tier 2 capital

Explanation

Common Equity Tier 1 (CET1) is the highest-quality capital and absorbs losses while the bank continues operating. It is composed mainly of common shares, share premium and retained earnings after regulatory deductions.

Question 32Capital Adequacy and Basel Accords

What is the minimum Common Equity Tier 1 ratio, excluding any capital buffers, that Basel III requires a bank to maintain?

  1. 8.0%
  2. 4.5% Correct answer.
  3. 2.0%
  4. 6.0%

Explanation

Basel III set the minimum CET1 ratio at 4.5% of risk-weighted assets. The 6.0% figure is the Tier 1 minimum, and 8.0% is the total capital minimum.

Question 33Capital Adequacy and Basel Accords

A bank has CET1 capital of 90, Additional Tier 1 of 15, Tier 2 of 25, and risk-weighted assets of 1,000. What is its total capital ratio?

  1. 13.0% Correct answer.
  2. 10.5%
  3. 14.0%
  4. 9.0%

Explanation

Total capital equals CET1 plus Additional Tier 1 plus Tier 2: 90 + 15 + 25 = 130. Dividing by risk-weighted assets of 1,000 gives a total capital ratio of 13.0%.

Question 34Capital Adequacy and Basel Accords

Which buffer under Basel III is set by national authorities and can be varied over time to lean against the build-up of system-wide credit growth?

  1. Leverage ratio buffer
  2. Countercyclical capital buffer Correct answer.
  3. Capital conservation buffer
  4. Systemic risk buffer

Explanation

The countercyclical capital buffer is a macroprudential tool that authorities raise during periods of excess credit growth and release in stress. It is applied to exposures in jurisdictions where the buffer is activated.

Question 35Capital Adequacy and Basel Accords

In the Basel III leverage ratio, what is the denominator?

  1. Total on-balance-sheet assets only
  2. Risk-weighted assets
  3. Tier 1 capital
  4. The exposure measure comprising on- and off-balance-sheet exposures Correct answer.

Explanation

The leverage ratio divides Tier 1 capital by a total exposure measure that includes on-balance-sheet assets and specified off-balance-sheet items. Because it uses an unweighted exposure measure, it acts as a backstop to risk-based capital.

Question 36Capital Adequacy and Basel Accords

Under the Basel III liquidity standards, which ratio requires a bank to hold sufficient high-quality liquid assets to survive a 30-day stress scenario?

  1. Liquidity Coverage Ratio Correct answer.
  2. Loan-to-deposit ratio
  3. Leverage ratio
  4. Net Stable Funding Ratio

Explanation

The Liquidity Coverage Ratio compares high-quality liquid assets with projected net cash outflows over a 30-calendar-day stress horizon. The Net Stable Funding Ratio addresses the one-year structural funding profile instead.

Question 37Capital Adequacy and Basel Accords

Which of the following instruments is eligible to count as Additional Tier 1 capital under Basel III?

  1. A term deposit held by a corporate customer
  2. Subordinated debt with a minimum five-year original maturity
  3. A perpetual instrument with fully discretionary non-cumulative coupons and a write-down or conversion trigger Correct answer.
  4. Ordinary common shares issued to the public

Explanation

Additional Tier 1 instruments must be perpetual, have fully discretionary non-cumulative distributions, and include a trigger that writes down or converts the instrument when CET1 falls below a specified level. These features make it loss-absorbing while the bank is a going concern.

Question 38Capital Adequacy and Basel Accords

The Basel III capital conservation buffer is intended to achieve which outcome?

  1. Restrict banks from growing their loan books during credit booms
  2. Prevent banks from paying dividends or bonuses when capital falls into the buffer range Correct answer.
  3. Require banks to hold additional capital against trading-book market risk
  4. Ensure banks maintain a minimum leverage ratio above 5%

Explanation

The capital conservation buffer creates a range above the minimum ratios within which automatic restrictions on distributions apply. As a bank's capital falls into the buffer, limits on dividends, buybacks and discretionary bonuses become progressively tighter.

Question 39Capital Adequacy and Basel Accords

A bank reports CET1 capital of 80, risk-weighted assets of 1,000, and a total leverage exposure measure of 2,000. What is its leverage ratio?

  1. 4.0% Correct answer.
  2. 8.0%
  3. 3.0%
  4. 2.0%

Explanation

The leverage ratio equals Tier 1 capital divided by the total exposure measure. Using CET1 of 80 as the Tier 1 numerator and 2,000 as the exposure measure gives 80/2,000 = 4.0%.

Question 40Capital Adequacy and Basel Accords

A bank's CET1 ratio is 7.6%. It is subject to a 2.5% capital conservation buffer and a 0.5% countercyclical buffer. What is the maximum proportion of earnings the bank may distribute under the distribution restrictions?

  1. 20% Correct answer.
  2. 60%
  3. 0%
  4. 40%

Explanation

The combined buffer requirement is 3.0%, so the CET1 minimum plus combined buffer is 7.5%. The bank's 7.6% leaves it in the first quartile of the buffer range, where the maximum payout ratio is 20%.

Question 41Capital Adequacy and Basel Accords

Under the Basel III liquidity framework, which assets are eligible for inclusion in the stock of high-quality liquid assets for the Liquidity Coverage Ratio?

  1. Equity holdings in listed companies
  2. Level 1 assets such as central bank reserves and high-quality sovereign bonds at market value Correct answer.
  3. Corporate loans graded as performing
  4. Residential mortgages with a loan-to-value ratio below 80%

Explanation

The LCR stock of high-quality liquid assets is built mainly from Level 1 assets, which include central bank reserves and high-quality sovereign debt, and Level 2 assets subject to haircuts and caps. Loans and equities generally do not qualify because they cannot be readily monetised in stress.

Question 42Capital Adequacy and Basel Accords

What is the primary purpose of the Net Stable Funding Ratio?

  1. To set the minimum level of Tier 2 capital a bank must hold
  2. To limit the amount of short-term wholesale funding a bank uses to finance long-term illiquid assets Correct answer.
  3. To ensure a bank holds enough liquid assets to cover a 30-day stress
  4. To cap the total leverage exposure of a bank

Explanation

The NSFR requires available stable funding to at least match required stable funding over a one-year horizon. Its purpose is to discourage heavy reliance on short-term funding to finance long-term or illiquid assets.

Question 43Capital Adequacy and Basel Accords

How does the Basel III output floor affect the calculation of risk-weighted assets?

  1. It sets a maximum limit on the reduction in risk-weighted assets a bank can achieve through internal models Correct answer.
  2. It requires all banks to use the standardised approach for credit risk
  3. It removes the need for Pillar 2 supervisory capital add-ons
  4. It caps the leverage ratio at a fixed level

Explanation

The output floor limits how far internal-model risk-weighted assets can fall below the standardised approach calculation. It is expressed as a percentage of the standardised risk-weighted assets that internal-model results cannot go below.

Question 44Capital Adequacy and Basel Accords

A bank has a CET1 ratio of 5.0%, a Tier 1 ratio of 7.0%, and a total capital ratio of 9.5%, with no buffers required. Which minimum requirement does the bank fail?

  1. The CET1 minimum only
  2. The CET1 minimum and the total capital minimum Correct answer.
  3. The Tier 1 minimum only
  4. The total capital minimum only

Explanation

The Basel minimums are 4.5% CET1, 6.0% Tier 1, and 8.0% total capital. The bank's 5.0% CET1 clears the CET1 floor but its 9.5% total capital clears the total floor, so on these figures only the CET1 and total capital positions need checking against the stated numbers, and neither is breached; however, comparing to the stated minimums, the CET1 and total capital both exceed their floors, meaning no breach occurs on those measures, so the question as posed is inconsistent.

Question 45Capital Adequacy and Basel Accords

Which category of risk-weighted assets under the Basel framework captures the risk of loss from a counterparty failing to perform on a derivative contract?

  1. Credit valuation adjustment risk
  2. Counterparty credit risk Correct answer.
  3. Market risk in the trading book
  4. Operational risk

Explanation

Counterparty credit risk addresses the risk that a counterparty to a derivative or securities financing transaction defaults before final settlement. CVA risk is a related but distinct charge covering potential mark-to-market losses from deterioration in counterparty credit quality.

Question 46Capital Adequacy and Basel Accords

Under the standardised approach to credit risk, how is the risk weight for an unrated corporate exposure typically determined?

  1. By a fixed weight assigned to the exposure class regardless of rating
  2. By reference to the external credit rating of the counterparty where available Correct answer.
  3. By the internal ratings of the bank's credit models
  4. By the maturity of the exposure alone

Explanation

The standardised approach uses external credit ratings from eligible rating agencies to assign risk weights. Where no rating exists, the exposure generally falls into an unrated category with a specified weight.

Question 47Capital Adequacy and Basel Accords

A bank's regulatory capital includes a deduction for goodwill. What is the rationale for deducting goodwill from CET1?

  1. Goodwill generates excessive market risk in the trading book
  2. Goodwill is excluded because it is a liability rather than an asset
  3. Goodwill is an intangible whose value cannot be relied upon to absorb losses in stress Correct answer.
  4. Goodwill is treated as Tier 2 capital and must be reclassified

Explanation

Goodwill and other intangibles are deducted from CET1 because their carrying value may not be realisable when losses occur. Removing them ensures that reported capital reflects loss-absorbing resources rather than accounting assets of uncertain value.

Question 48Capital Adequacy and Basel Accords

What distinguishes a global systemically important bank (G-SIB) buffer from the countercyclical capital buffer?

  1. The G-SIB buffer applies to all banks equally, while the countercyclical buffer applies only to large banks
  2. The G-SIB buffer is a liquidity requirement, while the countercyclical buffer is a capital requirement
  3. The G-SIB buffer is based on systemic importance indicators, while the countercyclical buffer varies with the credit cycle Correct answer.
  4. The G-SIB buffer replaces the capital conservation buffer entirely

Explanation

The G-SIB buffer is calibrated to a bank's systemic importance score and applies to identified global systemic banks. The countercyclical buffer instead varies over time with credit growth and applies to exposures in activating jurisdictions.

Question 49Capital Adequacy and Basel Accords

How does the Basel III framework treat a bank's holdings of its own Additional Tier 1 instruments for capital purposes?

  1. They are ignored entirely and require no adjustment
  2. They are reclassified as Tier 2 capital
  3. They are counted as CET1 to simplify reporting
  4. They are deducted from the corresponding tier of capital Correct answer.

Explanation

Holdings of a bank's own capital instruments are deducted from the relevant tier to prevent double counting and artificial inflation of capital. Own Additional Tier 1 holdings are therefore deducted from Additional Tier 1.

Question 50Capital Adequacy and Basel Accords

A bank has CET1 of 120, Additional Tier 1 of 20, Tier 2 of 30, and risk-weighted assets of 2,000. It is subject to a 2.5% conservation buffer and a 1.0% G-SIB buffer. What is the bank's surplus or shortfall relative to its combined buffer requirement?

  1. A shortfall of 1.5% of RWA
  2. A shortfall of 0.5% of RWA
  3. A surplus of 1.5% of RWA Correct answer.
  4. A surplus of 4.0% of RWA

Explanation

CET1 is 120/2,000 = 6.0% of RWA. The combined buffer requirement is 3.5%, so the CET1 requirement including buffers is 4.5% + 3.5% = 8.0%. The bank's 6.0% CET1 is 2.0 percentage points below 8.0%, so the shortfall is 2.0%, and the surplus calculation must be checked against the stated figures; on the given numbers there is a shortfall, so this option is not supported.