Magazine article Risk Management

Working Models: From Theory to Practice

Magazine article Risk Management

Working Models: From Theory to Practice

Article excerpt

In many applied sciences, a gap exists between theoretical development and practice. Naturally, such gaps are to be expected. It takes time for the practical development of theories into a working state. The existence of a wide gap, however, may be indicative that theoretical development in a field is not fruitful. This may be a sign that a change of emphasis is required in theoretical endeavors.

A rather wide gap exists in the study of decision-making, and, by relation, risk management. In these, the contrast between the theoretical and practical is often distinct. Managing risk implies the reduction of event probability and/or its impact (theory), as well as the mitigation of impact via various risk transfer mechanisms (practice). While the concept is simple, application is often complex.

In fields where the theory/practice gap seems a lot smaller, or at least where we get a sense that the gap has become manageable, the overriding consideration seems to be the ability to develop workable models. The decision sciences, including risk management, however, have been slow to invoke a similar "cut and try" philosophy. Ideas in risk management often remain page-bound. That is, they are developed on paper and rarely leave it. Clearly, the decision maker does not think in terms of steel, wood and other tangible physical objects, yet his or her results do affect the physical world. The key is moving formulas and equations from paper to practice.

The tools for effective model building in risk management are certainly available. To make models a larger part of risk management thinking, however, we need to actively promote their usage. Otherwise, the development of theory without practical support becomes a risk-free exercise. Rewarding practical success, not just formal rigor, would go a long way to help assure that proper attention is paid to the development of "application-friendly" theory. The corresponding threat is that without practical justification, or at least its promise, the theory will not be taken seriously. Where theories are allowed to breed, unchecked by the test of workability, they tend to proliferate. In turn, the proportion of theories to practical applications grows and the theory/practice gap widens. On the other hand, there is not a commensurate increase in what we could reasonably qualify as real knowledge about the field. …

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