Using risk appetite and risk attitude to support appropriate risk-taking: a new taxonomy and model
The term ‘risk appetite’ is used widely and increasingly, but there is no commonly accepted definition for it. This situation is exacerbated by confusion between risk appetite and other risk-related terms, especially risk attitude.
This paper offers a consistent and coherent taxonomy of these terms, showing how they relate to one another. This allows development of a rich model to explain the complementary and central roles of both risk appetite and risk attitude when individuals or organisations decide how much risk can be taken in a risky and important situation.
By progressively deconstructing the full model, we conclude that the key step is to set risk thresholds. We derive a three-stage approach to setting risk thresholds that ensures that the outcomes properly reflect organisational risk culture and the individual risk propensities of key stakeholders, and also clarifies the essential role of risk attitude as a control point. This enables individuals and organisations to choose the appropriate risk attitude in order to influence the amount of risk that is taken in any given situation, so that the achievement of objectives is optimised.