Risk Mitigation Strategies & Decision-Making Flashcards

A bank applies a 'four-eyes principle' to high-value transactions. This control PRIMARILY targets which risk mitigation objective?

Answer: Preventing fraud and errors through mandatory dual authorization

The four-eyes principle requires two independent approvers for significant decisions, creating a check that reduces the risk of unilateral fraud or error.

Under expected utility theory, a risk-averse decision-maker will prefer a certain outcome over a gamble with the same expected value because:

Answer: Their marginal utility of wealth diminishes, so they value certainty more than the gamble's expected payoff

Risk-averse individuals have concave utility functions where diminishing marginal utility means the disutility of losing exceeds the utility of an equivalent gain.

A manufacturing firm installs fire sprinklers and trains staff in evacuation procedures. In risk management terminology, sprinklers are BEST classified as a ________ control, while evacuation training is a ________ control.

Answer: Preventive; corrective

Sprinklers mitigate the impact of a fire once it starts (corrective/mitigating), while evacuation training addresses response after the event—however, standard classification treats sprinklers as preventive (limit spread) and evacuation as corrective response; the best-fit pairing here is preventive for sprinklers and corrective for evacuation.

A company's risk committee reviews a project with a positive NPV but a tail risk scenario that could cause insolvency. The committee rejects the project. This decision BEST reflects:

Answer: Applying a risk constraint that protects organizational survival over pure expected-value optimization

Protecting the firm from ruin risk means accepting a lower expected return to avoid scenarios that threaten solvency, a principle central to enterprise risk management.

Which quantitative tool is MOST appropriate for estimating the probability distribution of project completion time when individual task durations are uncertain?

Answer: Monte Carlo simulation

Monte Carlo simulation samples from distributions of individual task durations repeatedly to build a probabilistic distribution of total project completion time.

A risk analyst recommends accepting a residual risk after controls are applied. This decision is appropriate when:

Answer: The cost of further mitigation exceeds the expected benefit of additional risk reduction

Residual risk acceptance is justified when the marginal cost of additional controls outweighs the marginal reduction in expected loss, reflecting economic efficiency in risk management.

The concept of 'satisficing' in risk-based decision-making, introduced by Herbert Simon, suggests that decision-makers:

Answer: Choose the first option that meets a minimum acceptable threshold rather than optimizing fully

Satisficing acknowledges bounded rationality: decision-makers select a solution that is 'good enough' given cognitive and information limits, rather than exhaustively optimizing.