What is the future of operational risk? As the operational risk leader of one large bank observed, "We were looking in the rearview mirror for lessons. We're now starting to look out the front window. We probably should be looking out the side windows as well: I suspect other industries are doing some things pretty well."
Operational risk clearly differs from credit risk and market risk in the nature and mechanisms of the threats, the types of responses, and even the governance of the risks. While organizations in any industry face all three types of risk, credit risk and market risk are critical to the way financial institutions do business. In terms of operational risk, banks are like all other industries: jeopardized. In the search for the future of operational risk and for the power to overcome daily hurdles, other industries offer experiences that teem with potential solutions.
Over the past several months, I've written a series of articles on operational risk lessons learned from other industries. (1) This article goes further by drawing on those lessons to help answer 10 hot questions in operational risk today. These questions are grouped into three categories: risk governance, risk evaluation, and risk response. (2)
Three common risk governance questions are as follows:
1. How do we govern operational risk management?
2. How do governance, risk, and compliance intersect?
3. How does risk become more built in to business decisions?
It is helpful to consider these three questions as a group and clarify governance at three levels: 1) the corporate (the scope of the shareholders and directors); 2) the business (that which is delegated to managers by the directors); and 3) the functional (IT, HR, finance, risk, business continuity, and others), which seeks coordination across business lines.
Governance is more than an organization structure. Besides communication, it also includes processes connecting up, down, and sideways. Effective governance requires all three.
With these clarifications, improving operational risk management (ORM) governance and connecting it to the rest of the institution becomes an exercise in connecting the dots. A general approach might consist of three organizational structures with distinct responsibilities, but a single goal:
* ORM senior executive sponsors (selected enterprise officers such as COO, CFO, CIO, and CRO, as well as selected business-line leaders, who would hold key roles on business and functional governance committees to embed risk awareness).
* ORM executive team (heads of operational risk at enterprise and business-line levels, plus key leaders of related areas like IT risk, business process improvement, project management, HR, and legal).
* ORM working team (direct reports to the ORM executive team driving front-line execution). Continuing the connect-the-dots analogy, the head of ORM would also join other governance committees such as IT governance, human resources, business continuity, or new products. This dot-connecting should take place at both the enterprise and business-line levels.
Both the processes for governing and the processes being governed must account for risk so that ORM is efficient and effective. Doing so ensures that decisions are more risk aware--and risk-aware …