Avoiding False Positives and False Negatives in Effective Challenge
Effective model validation requires striking the right balance between thorough oversight and practical efficiency. Unfortunately, we frequently see mistakes on two extremes that waste resources and undermine the validation process.
2. False Negatives: “Light Touch” Approach
For short-term benefit, expedient validators provide a “light touch” to appease noisy developers or managers and possibly to hide their lack of experience and understanding. This does nothing to benefit the firm.
The Cost of Extremes
Both extremes waste a lot of time and a lot of resources, especially in the latter case, when a poorly-implemented or conceptually-unsound model could lead to failure costs associated with use or regulatory findings.
Key Insight: Bank executives need to understand that true effective challenge leads to cost-effective models and model development procedures, which helps turn development expenses into development investments and assets, partially by holding modelers accountable for their actions and decisions.
The Solution: Balanced Effective Challenge
Effective model validation strikes the perfect balance—focusing on issues that matter while avoiding bureaucratic overhead. This approach transforms validation from a cost center into a value-adding function that strengthens both models and institutional capabilities.
The goal is proportionate, risk-focused validation that enhances model quality without creating unnecessary friction in the development process. When done right, effective challenge becomes an investment in institutional knowledge and model reliability.