What is the risk management process in banks?

Types of Risks:

As of now,3 types of major risks are addressed in Basel accords of Central Banks for the supervision of commercial banks:

1. Credit Risk: Default by the borrower to repay the borrowings

2. Market Risk: Volatility in the banks’ portfolio due to change in market factors.

3. Operational risk: Risk arising out of banks’ inefficient internal processes, systems,people or external events like natural disasters, robbery etc

 

{Market Risk includes the ALM ( ALM comprises of Interest Rate Risk & Liquidity Risk) & Exchange Risk (Forex holdings are part of banks’ portfolio).}

 

To know more I suggest that you read a13 page booklet at :

http://www.bim.edu/index/doc/integrated-risk-management-system.pdf

I know that it is old and in part obsolete, still it will give you a good overview.

credit risk means failure because if they have no risk they dont know how to handle the fluctuation of markets,example like the exchange rate of the money their a fluctuation right everyday there no fixed exchange rate of the money in markets right.that they see the liquidation risk that many markets that fluctate rate their income sometimes they gain higher sometimes not,operational risk that may incure loss due to systems and procedure.

Security Risk Management, in terms of security items e.g. security of cards, cheques, cash, reserves, with the consideration of security management e.g CCTV cameras, access code, pins, security official staff along with market risk in form of making most secured less risk portfolios.

 

1.       Credit Risk : Lending Risk connected with recovery with interest—risk is accumulation of NPA-Non-performing Assets—Provisioning for it—write off as per Government policies and decisions---Lending corporate with sky limits---Mega corporate defaults—Legal issues connected with recovery and prolonged time for the procedures—High % of loss on Recoveries due to delay and various fees involved even though there is provision to collect the same from the borrower—Certain inability to repay the loans from low income groups which also form a major part.

2.       Interest Volatility:  This is another type of risk and the rate of interest fluctuates over a period of time. Now to cover this variable interest option as also the fixed interest option is provided as a precautionary method.  But in case of Term Deposits and Long Term loans there is a potential threat to the banker that it has to accept deposits at a higher rate to cover the payments/receipts as the case may be and incur a possible loss in the deal.  Needless to say, the chance of gain is there but the customers’ may opt for shifting the loan from one institution to other for favourable considerations.

3.       Liquidity Risk:  Bank are to observe a certain percentage of their Demand and Time liabilities  as Reserve  with the central bank as a regulatory and licensing  measure: By way Statutory Liquidity Ratio/Cash Reserve ratio etc. And the balance is only available for lending for short term and long term requirements of the customers. Banks are also not as much as free to charge quite a sizable margin for their loans at better rates than their acceptance of deposits due regulatory measures and stiff competition.  There may be stiff competition from those banks who are acting as Banker to the Government because, they have enough opportunities to   get Government oriented funds to channel through, so that they have upper edge over lending...To keep a perfect balance on regular basis to maintain payment for the money received by way of deposits and to observe the statutory requirements, they may require to borrow higher amounts on regular weekly basis from the call money market at exorbitant rates for which there no in- forced limits.

4.       Failure of Banks:  Liquidity risks are one of the main reason for failure of banks coupled  with accumulated Non-Performing Assets  on Account of factors mentioned above.

5.       Exchange Risks : are associated with Foreign Exchange Transactions on NRE Deposits/FCNR or other Foreign currency deposits through International Foreign Exchange Markets. A lot of negotiations are going on with Letter of credit instruments also and Fx market is highly volatile and sensitive .

 

6.       Operation Risk:  This is connected Management qualities, poor decisions, higher overhead payments, Large number of low/negative income generating branches and the like.  

All risks coincide (or combination of the risks) for the failure of the Banks, but the faith and loyalty of the general public  can enough and more to protect a Bank from any major set-backs due to the risks involved ,  Government also keen on the activities of the bank and will come forward with immediate steps to regain from an imminent failure. 

Yes, the failure of the bank is mainly due to the failure in managing of those risks efficiently.

 

There are3 different sections or departments within the RISK function are:

The Market, Liquidity and Country Risk, Credit and Financial Risk and Operational, Fraud and Compliance Risks. The Board and Audit committee is responsible and have to ensure the effective and efficient management of Risk function in the Bank.

 

Credit Risk has a vast meaning and its explanation may book a number of pages. However to observe its commons effects we may safely say that "Credit Risk is hidden by Statistical Jugglery".

 

 

 

However, it should be the point to follow that a bank can not earn without exposing itself at risk. You may say “Maximum Risk Maximum Profit”.  There are two types of business, a bank always run. First Domestic and Second Overseas (Overseas business is engaged with its own foreign representation in the form of its branches and subsidiaries as well as its correspondent banks/institutions and non-correspondents banks/FIs and DFIs).

 

 

 

Domestic banking always encounters with political and bureaucratic (internal/external) pressure/threats which generally links with corporate customers at higher level and the financial assistance schemes with certain discriminations which the bank can not set aside. Whilst the Overseas business mostly encounters with geo-political situation and diplomatic environment. In both the situations a bank can easily keep itself away from exposing to a risk by analyzing net weight of tangible collaterals, values of commitments and the effective tenure of a transaction within the purview of business relationship in conjunction with local and international rules and practices. In such process it should be pertinent to care that the commitments between the bank and its counterpart should not contain arrows of opponent dimensions also keeping in view that a bank can not afford any charge of a lake in its commitments. Theory and Practice must be in consonance with each other because any lapse in analyzing the facts on ground and underground may entail in any dire situation for bank and its counterpart and entire benefit may go to the third party behind the transaction.

 

 

 

Muhammad Hussain

 

 

 

 

Credit Risk: It means failure of the country party to repay according to agreed terms.

Market risk; Fluctuation in market rates due to which the bank is exposed to financial loss. Exchange risk is part of market risk. e.g Discount rate fluctuation etc

Liquidity Risk: Inability of the bank to meet its cash requirement 

Operational Risk: Bank may inccure loss due to inapropriate systems and procedure