In the world of banks, coronavirus will quite likely cause risk management to try the impossible -- manage ‘uncertainties’ and quantify the ‘unquantifiable’
Biswajit Das
The words virus and mask have the bellwether indicators of the post COVID-19 risk management scenario.
The word virus, courtesy corona, reclaimed its real, biological avatar from the cyber world in the first few months of 2020. Risk management, as a result, has shifted gears in recent months to include the real threat perception of environmental/biological issues.
The mask, from an indicator of risk has turned into a savior now. It indicates that when it is used the assumptions in risk management go topsy-turvy.
Though there was an occasional buzz over a looming pandemic earlier, now with COVID-19, it would not be out of place to say that a Black Swan has come truly knocking on our door. Each new Black Swan event highlights valuable lessons for businesses and risk managers about how to respond.
So also, with COVID-19. We should note that unlike the financial crisis of 2008, which showed systemic risk primarily from an inside out perspective, the present situation needs an ‘outside in’ view of how systemic risks impact the organisation.
At this point of time, it is extremely difficult to predict how the pandemic will play out over the next few weeks or months. Just to recall the century old postulate of ‘Knightian Uncertainty’, i.e. uncertainty must be taken in a sense radically distinct from the familiar notion of risk as risk has a known probability distribution and for uncertainty, the probability distribution is unknown.
Over time, risk professionals have bridged this gap (as they included more and more non-financial risks in the ambit) by measures like scenario analysis, complexity analytics, scenario buildings by extrapolating from near similar events/data populations etc., aided by technological innovations like Big Data and Artificial Intelligence.
Post COVID-19, we will see this trend getting more accentuated. Resilience testing, through various extreme but plausible scenarios, needs to be done regularly to make the organisations ready for uncertainties, apart from normal risk management techniques.
Leadership will need to be more agile than ever before as client segmentation and preferences will undergo massive changes. Communication, planning and action will matter more than ever to organisational survival. All aspects of a firm's supply chain too become critical.
A revamped Business Continuity Management (BCM) will be in order and become a yardstick of organisational resilience. BCM will move out of the compliance bucket (just a piece of paper or formality) to active risk management domain.
A BCM plan should highlight additional factors and may include hospital systems, transportation protocols, work arrangements and supporting technology infrastructure (including WFH), safety supplies and mental health in the workplace - from ‘well-being’ employee assistance plans (EAPs) to ‘trauma’ EAPs.
During COVID-19, agile organisations are testing live their BCM efficacy on above parameters and it will be the differentiator once the crisis ebbs.
Business services, which if disrupted could harm consumer and market integrity need to be identified and tolerance limits for disruption to be set to manage reputation risk during uncertain periods.
Once the COVID-19 dust settles, there will be a need to proactively manage climate risk and prepare for future crises as there will be increased clamor and consensus to move toward sustainable banking factoring in environmental, social and governance (ESG) aspects.
From a risk management perspective, organisations will need to quantify financial risk due to climate change. For banks, climate risk assessment will become a part of the regulatory agenda and may be the focus of the next Basel version.
Analytical tools that help measure uncertainty like estimating epidemiological contagion rate; estimating the probability of a small system change for example, an earthquake or a flood will see much higher use than before.
Overall post COVID-19, risk management will be a march towards managing the ‘uncertainties’ and a quest to ‘quantify’ the ‘unquantifiable’.
Biswajit Das is an experienced banker with around three decades of work behind him. He is presently the Chief Risk Officer (CRO) at a private sector bank. The opinion expressed here is his own and does not reflect those of his employer.
