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Chapter13AssessmentofBankingOperationalRiskC.Zhang,W.Zhu,S.Yang,andJ.FrenchOpriskandMeasurementResearchThemainrisksinbankingmanagementarecreditrisk,marketriskandoperationalrisk(Oprisk).TheBritishBankers’Association(BBA)andCoopersandLybrandconductedasurveyinBBA’s45membersin1997andthereportshowedthatmorethan67%ofbanksconsideredtheopriskswereofmoreconcernmentthanmarketriskandcreditrisk.24%ofbankshadsufferedmorethan100millionpoundlossesduringthethreeyearspriortothesurvey.1TheworldwidesurveyonoprisksbytheBaselCommittee(2002)showedthatrespondentbankshadreported47,029opriskcaseswithlossesofover1millionEURs,witheachbankexperiencing528opriskcasesonaverage.2Overthepastdecade,financialinstitutionshavesufferedseverallargeoper-ationallosseventsleadingtobankingfailures.MemorableexamplesincludetheBarings’bankruptcyin1995,the$691milliontradinglossatAllfirstFinancial.Obviously,opriskisaveryseriousprobleminthebankingsystematpresent.Theseeventshaveledregulatorsandthebankingindustrytorecognizetheimportanceofopriskinshapingtheriskprofilesoffinancialinstitutions.Unlikecreditrisksandmarketrisks,opriskshavenoagreeduponauniversaldefinition.Therearethreeviewpointsforoprisks’definition:3ageneralizedconceptregardsallkindsofriskexceptformarketriskandcreditriskasoprisk;anarrowedconceptregardsonlytherisksrelatedwiththeoperationaldepartmentsinfinancialinstitutionsasoprisks.Obviously,thegeneralizedconceptmakesitdifficultformanagerstomeasureopriskaccurately,andnarrowedconceptcannotcoveralltheoprisksthatcausebankstosufferfromunexpectedloss.Therefore,wepreferthethirddefinition–theconceptbetweengeneralizedandnarrowed.Thisconceptfirstlydividedtheeventsofbanksintotwotypes,controllableandnon-controllable,andthenregardstherisksfromcontrollableeventsasoprisks.ThedefinitionsfromtheBaselCommitteeandBBAaremostrepresentativeonesbelongtothethirdconception.IntheNewCapitalAccordII,theBaselhasincorporatedintoitspro-posedcapitalframeworkanexplicitcapitalrequirementforoprisk,definedastheriskoflossresultingfrominadequateorfailedinternalprocesses,peopleandsys-temsorfromexternalevents.4BBAindicatedintheirfamous1997surveythatitisdifficulttocontrolopriskbaseoncoherentbasisifthereisnotaproperframeofD.L.Olson,D.Wu(eds.)NewFrontiersinEnterpriseRiskManagement,195©Springer-VerlagBerlinHeidelberg2008196C.Zhangetal.riskmanagementforabank.BBA,accordingtotheirownbankingpractice,directlydefinedopriskas“theriskofdirectorindirectlosscausedbytheimperfectionsorerrorsofinternalprocedures,personnelandsystemsorexternalevents.”5TheBaselproposedthreedistinctoptionsforthecalculationofthecapitalchargeforoprisk.Theuseoftheseapproachesofincreasingrisksensitivityisdeterminedaccordingtotheriskmanagementsystemsofthebanks.TheBaselwasintendedtoimproveriskmanagementbyallowingtheuseofdifferentmeth-odstomeasurecreditriskandoprisk,andallowingbanksandsupervisorsselectoneormoremethodsmostinaccordwiththeirbankingoperationandfinancialmarketsstatus.Foralltypesofrisks,theBaselencouragesbankstousetheirownmethodforassessingtheirriskexposure.Indeed,theabsenceofreliableandlargeenoughinternaloperationallossdatabasesinmanybankshashinderedtheirprogressinmodelingtheiroperationallosses.Thethreeapproachesforopriskmeasuring(seeTable13.1)proposedbyBaselAccordIIareBasicIndicatorApproach(BIA),StandardizedApproach(SA)andAdvancedMeasurementApproach(AMA).6InAMAtheopriskcapitalrequirementcanbedescribedasijijEIijPEijLGEij∑∑×××g(,)(,)(,)(,),imeansoperationtype,jmeansrisktype,g(i,j)istheoperatortoconvertexpectedlossELintocapitalrequirement;parametergisenactedbysupervisiondepartmentaccordingtotheoperationlossdataforthewholebankingindustry;EI(i,j)meansopriskexposureof(i,j);PE(i,j)meansoccurringprobabilityoflosseventson(i,j);LGE(i,j)meansthelossdegreewhentheeventsoccuron(i,j).Thosethreeparameters–EI(i,j),PE(i,j),andLGE(i,j)areestimatedbybanksinternally.Howeverparameterγreflectedtheriskdistributionofwholebankingindustrymainly,butnotalways,associatedwiththeTable13.1Overviewofopriskapproaches9NamesTop-downapproach:AllocateacertainproportionofcurrentcapitaltooprisksBottom-upapproach:EstimateoprisksbasedonactualinternallossdataBasicindicatorapproachStandardizedapproachInternalmeasurementapproachLossdistribu-tionapproachModelingapproachBusinesslinesandrisktypeSinglebusinesslineMultiplebusinesslinesMultiplebusinesslinesandeventtypesStandardizedbysupervisorsBankdiscretionStructureΣ{Coefficient×Indicators}EstimateoperationalVaRbasedonfrequencyandseveritydistributionsParametersExposureindicator(EI)MultipleEIsbybusinesslinePE,LGE,andRPIStandardizedbysupervisors13AssessmentofBankingOperationalRisk197riskdistributionofspecialinstitutionandspecialoperation.MeanwhileAMAhassomeobstaclesinpractice,suchasmostbankslackoftheinternalhistoricaldataneededtoestimateoprisk,theexternaldataarenotmatchingwiththepotentiallossofthebank,etc.TheLossDistributionApproach(LDA)basedonthehypothesisofopriskoccurringprobabilityandaftereffectseverity.LDAestimatesthespecialexperientialprobabilitydistributionsofthetwofactorsbysometechniques,suchasMonteCarloSimulati