Two stories about bank risk management

The LinkedIn post about the new risk methodology for banks - Basel IV - made us remember two situations from our professional practice as management consultants. The first one was in 2001, the second in 2004. Let's start with the more recent one.

Training programme on Basel II

In 2004 we decided to develop a course for banking professionals on Basel II. Part of the work was delegated to our employee, who had just graduated with the degree in "Math methods in economy". At first, this seemed to be an excellent idea. After some research and interviews with several guys in risk-management departments, he said the following.

"I can't develop this, as the math methods we were taught at the University were about 30 years old. Basel II is based on more recent ones. We were not taught them.."

We were surprised. The Central Bank postponed the adoption of Basel II. The experts in private chats said that banks don't have experts of that level, even if banks find the way to develop these models.

European banks that work with similar clients, e.g. in agricultural sector often develop consortiums to fund the development of models as this is quite expensive. In short, it is very advanced math - it is very COMPLEX subject.

Komerční banka fraud

In 2001 one of the co-founders was in London working 24/7 on source documents trying to figure out all transactions that happened in the previous 5 years among 18 Russian and Ukrainian companies, 6 offshore companies and one company in the UK. After the work is done, a clear picture of fraud is seen. As newspapers reported at that time:

"US$ 250 million fraud involving 30 letters of credit issued by the bank relating to purported sales of large quantities of agricultural products from Russia and the Ukraine. The bank believed that there were no genuine sales of produce in Russian warehouses; the invoices and warrant lists were a sham"

Nine former members of Komercni banka's board of directors have been under investigation for fraud of eight billion crowns.

The bank went bankrupt because somebody has to send an employee to check the collateral. No Basel II required. In other words - it is very SIMPLE.

Conclusion

Just a bit of common sense. Sophisticated mathematical model wouldn't replace simple and obvious actions based on common sense and logic.

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