Credit Risk Management in Banks Quiz

Right of Set Off

• A bank cannot set off a credit balance of a company account against money due from one or more of its partners/ directors on their individual accounts, unless they are sole proprietors.
• The bank can exercise the right of set off after borrower's death, insolvency, company dissolution, or after receipt of garnishee/attachment orders from regulatory/administrative body.
• The customer is provided with a formal notice about the bank's intention to exercise the right of set off.
• The right of set off can only be exercised for debts owed and not for future or contingent debts.

Right of Appropriation

• When a customer has more than one debt and makes a payment, the bank must apply the payment according to the customer's direction.
• If the customer omits to intimate any specific appropriation, the bank has discretion to apply the money to any lawful debt actually due from the customer.
• The bank needs to declare its intentions in express terms.

Trust Accounts

• The bank should examine the trust deed concerning instructions regarding opening and operating the account.
• No trustee can delegate their power to another trustee or to an outsider.
• The bank should suspend all account operations upon receipt of death or retirement notice of a trustee.
• The funds in the trust account cannot be credited to the trustee's individual account or used to liquidate the trustee's personal debts.
• If the trustees are authorized to borrow, the bank must get specific assets of the trust as security.

Risk and Controls

• Banks are exposed to various kinds of risks, including credit, interest rate, foreign exchange rate, liquidity, legal, regulatory, reputational, and operational risks.
• Internal factors contributing to risk include deficiencies in loan policies, absence of prudential credit concentration limits, and inadequate risk pricing.

Management of Credit Risk

• Banks need a well-defined credit risk management policy approved by its board and a Credit Policy Committee.
• The credit risk management processes include:
  • Measuring risk through credit rating
  • Quantifying risk through expected loan losses estimate
  • Risk pricing on a scientific basis
  • Risk control through effective loan review mechanism and portfolio management

Management of Market Risk

• Banks' Boards should have clear articulated market risk management policies, prudential risk limits, review mechanisms, reporting and auditing systems.
• The Asset-Liability Management Committee (ALCO) should function as the top operational unit for managing the balance sheet.
• The banks should set up an independent unit to track the magnitude of market risk on a real-time basis.