Banking Risk

Overview

Even though all companies face some sort of risk, the leveraged nature of banking and it systemic nature means that risk is a primary concern, not just to managers, but to regulators as well.

Bank Specific Risks

As a firm, a bank is subject to of the risks common to other firms, which are detailed in enterprise risk corner. However, as financial institutions, banks face specific risks that are usually not a significant risk for industrial firms.

• Market Risk: refers to the risk that market prices move. In the context of banking, this generally means that interest rates change.
• Credit Risk: represents the risk that bank assets will default.
• Liquidity Risk: is the risk that a liability (cash payment) will come due, or a customer withdraws their money at a time when the bank does not have enough (liquid) cash to cover the payment or withdrawal.

Measuring Total Risk

• Economic Capital: is a standard model for measuring total bank risk, utilzing the tools of Value at Risk.
• Stress Testing - a form of testing where the bank is forecast in a handful of bad but specific scenarios.

Regulatory Framework

• Basel Framework: is an internationally agreed upon framework which does not have the force of law, except to the extent that countries decide to adhere to its accords and enforce its standards on its own banks. The framework was agreed upon in order to create a level playing field for banks while enforcing prudenctial standards.
• US Legal Framework: