Internal Risk Management Systems Research Articles

AI Risk Assessment: A Scenario-Based, Proportional Methodology for the AI Act

The EU Artificial Intelligence Act (AIA) defines four risk categories for AI systems: unacceptable, high, limited, and minimal. However, it lacks a clear methodology for the assessment of these risks in concrete situations. Risks are broadly categorized based on the application areas of AI systems and ambiguous risk factors. This paper suggests a methodology for assessing AI risk magnitudes, focusing on the construction of real-world risk scenarios. To this scope, we propose to integrate the AIA with a framework developed by the Intergovernmental Panel on Climate Change (IPCC) reports and related literature. This approach enables a nuanced analysis of AI risk by exploring the interplay between (a) risk determinants, (b) individual drivers of determinants, and (c) multiple risk types. We further refine the proposed methodology by applying a proportionality test to balance the competing values involved in AI risk assessment. Finally, we present three uses of this approach under the AIA: to implement the Regulation, to assess the significance of risks, and to develop internal risk management systems for AI deployers.

НЕПРАЦЮЮЧІ БАНКІВСЬКІ КРЕДИТИ СУБ’ЄКТІВ ГОСПОДАРЮВАННЯ: ДІАГНОСТИКА ПРОБЛЕМИ ТА ШЛЯХИ ЇЇ ВИРІШЕННЯ

The article establishes that one of the most important problems of the banking system of Ukraine is the growth of the volume and share of non-performing loans. Quantitative estimates of NPLs vary significantly between banks of different groups - the worst is the situation in Privatbank and other state-owned banks, the best is in banks with private domestic and foreign capital. The reasons for the existence of the problem of non-performing loans are determined: objective (external shocks, the long war with the Russian Federation) and subjective (low quality of risk management, lack of credit policy, abuse during the granting of loans, inadequate assessment of collateral, insufficient diversification of loan portfolios, significant concentration of loans in types of economic activity with unfavorable conjuncture). In order to solve the problem of non-performing loans, banks are suggested to improve their internal risk management systems, timely assess and forecast the credit risk of borrowers on a consolidated basis, taking into account related parties, implement mechanisms for early response to the deterioration of the borrower's affairs, apply financial restructuring procedures in a timely and balanced manner, conduct an annual stress testing of the largest bank borrowers. Banks with a high level of NPLs are proposed to create a non-performing assets unit as part of the risk management unit, the functions of which are: preparing conclusions on risks for credit decisions; credit monitoring; valuation of pledged property; checking its availability and condition; assessment of credit risk; supporting the calculation of the bank's reserves for expected credit losses. It is shown that the NBU's regulatory actions are aimed at preventing the creation of new imbalances in the monetary market and reducing existing ones, supporting the smooth functioning of the banking system in the conditions of martial law. It was established that mandatory requirements for banks are the use of audited financial statements to assess the credit risk of large debtors and groups, and its continuous monitoring. After the end of martial law, second-tier banking institutions were asked to update their NPL reduction strategies.

ANALYSIS OF THE EFFECTIVENESS OF THE RISK MANAGEMENT SYSTEM IN COMMERCIAL BANKS

Banking systems in different countries of the world, as well as the sustainability and effectiveness of their development, are constantly under the control of international organizations, central banks of countries and the public. This universal interest is due to the activities of banks related to the accumulation of funds in them and placement on their behalf. Commercial banks are financial intermediaries and active business structures that are exposed to a variety of risks in carrying out their operations. Global economic crises, the complexity of the functioning of various economic systems have prompted the development of a risk-based approach to banking business. This led to the creation of internal risk management systems in organizations, and primarily in banks. The problem of systemic risk management in the banks of Kazakhstan is under constant attention from the National Bank of the Republic of Kazakhstan. This is due to the main development goals of the country aimed at creating a modern banking system and promoting sustainable and balanced economic development. The continuous improvement of banking operations in different countries of the world has led to the increased importance of banking supervision over banks and the development of alternative forms of control over the activities of banks, including in our country.

The influence of the risk-oriented system of funded pension provision on the socio-economic security of the state

Introduction. The implementation of a risk-oriented approach is an important issue for implementation in various fields. The purpose of the paper is to assess the impact of the risk-oriented system of funded pension provision on the socio-economic security of the state. The method of analysis of T. Saati's hierarchies was used to assess the impact of the instruments of the risk-oriented system of accumulative pension provision on the socio-economic security of the state. Results. The highest priority is given to 3 instruments: use of tools for identification and formation of risk profile of accumulative pension entities – 1st place (0,295), introduction of internal risk management system for funded pension entities in the field of funded pension provision – 2nd place (0,278); establishment of general requirements to the performance indicators of the subjects of accumulative pension provision, in particular financial monitoring – 3rd place (0,166). Conclusion. Scenarios for the development of socio-economic security of the state are modeled. It is determined that the scenario of accelerated development is more probable in assessing the impact of instruments for implementing a risk-oriented system of funded pension provision, in particular: use of tools for identification and formation of a risk profile of the activities of the subjects of the accumulative pension provision; use the criteria of risk-oriented composition of investment areas of pension assets in the field of funded pension provision; use of FINTECH, REGTECH in the field of funded pension provision; use of financial mediation in the field of funded pension provision; establishment of general requirements to the performance indicators of the subjects of funded pension provision, in particular financial monitoring; introduction of an internal risk management system for the activities of the subjects of the funded pension provision in the sphere of the funded pension provision.

Кваліметрична модель оцінювання внутрішньої системи управління комплаєнс-ризиками в системі накопичувального пенсійного забезпечення

The article discusses the issues of developing a qualimetric model for assessing the internal compliance risks management system in the system of accumulative pension provision. The object of the research is the compliance risks management in the system of accumulative pension provision. One of the least developed issues is the lack of research on the assessment of the internal risk management system on the basis of a qualimetric approach. This hinders the practical aspects of introspection regarding the assessment of the quality of the internal compliance risk management system in the system of accumulative pension provision. Using the methods of analysis and synthesis, the general components for the development of a qualimetric model of quantitative assessment of the internal system of compliance risk management in the system of accumulative pension provision are defined. A qualimetric approach was used during the research. Thus, the article, using the factor-criterion modeling (qualimetric approach), develops a qualimetric model of quantitative evaluation of the internal system of compliance risk management in the system of accumulative pension provision. The proposed qualimetric model has a number of features, including organizational and informational, methodological and process components of compliance risk management in the system of accumulative pension provision. This provides such an advantage as the possibility of introspection and internal control of the formed internal system of compliance risk management in the system of accumulative pension provision. Also, the developed model allows the application of a qualimetric approach to solving the scientific task of assessing the internal system of compliance risk management in the system of accumulative pension provision, which will provide a multi-criteral approach to the management of these risks.

Combating the Teleological Drift of Life Insurance Solvency Regulation: The Case for a Meta-Risk Management Approach to Principles-Based Reserving

This Article presents the recent U.S. “principles-based reserving” (PBR) reform of life insurance solvency regulation as a case study of how regulatory systems can “drift” from their putative objectives when the complexity of the regulated market outpaces the capabilities of traditional regulatory tools to effectuate those objectives. As the life insurance industry developed new products and investment strategies to confront interest rate volatility and the competitive effects of deregulation, regulators perceived the traditional, rigid formula-based methodologies of statutory accounting for reserves – which comprise by good measure insurers’ largest set of liabilities – as increasingly out of touch with market realities. Under the PBR reform, the statutory accounting system will allow firms to account for their reserves based on their own probabilistic estimates of the future economic value of those liabilities, taking into account past experience and predictive statistical models used in the firms’ internal risk management systems. The statutory reserving regime is a linchpin of life insurance solvency regulation, so regulators should only change it so drastically if they are certain the new approach will promote solvency. The Article considers the PBR reform in this context.The Article begins by explaining the purpose of solvency regulation in the insurance industry (of which statutory accounting is a central pillar) as a public administrative intervention into the insurance market to remedy corporate governance gaps due to insurers’ unique capital structures. It then distinguishes statutory accounting system from GAAP accounting by elaborating the former’s traditional conservatism and emphasis on long-term viability and solvency over short-term optimization metrics such as share price and earnings. The Article then draws on “new governance” and “reliability” theories to analyze the PBR reform as an attempt to restore meaning to the statutory accounting system in the face of the new market complexities and dynamism by tapping into regulated firms’ proprietary risk management systems. The Article considers, and finds unlikely, the possibility that firms will themselves adopt a conservative, reliability-focused outlook that privileges long-term solvency over short-term optimization metrics. Under such circumstances, the central task for regulators should be to create a system of “meta-risk management” that aims to encourage the institutionalization of social responsibility and reliability on the part of industry actors. The Article explains how the PBR reform is unlikely to embed conservative reliability-focused principles into insurers’ corporate governance structure, and recommends several modifications that might increase PBR’s effectiveness. Whether statutory accounting can in fact recoup its conservative underpinning is but a single manifestation of a larger problematic concerning the viability of public regulatory control in light of the immanent instability of financial capitalism.

НАУКОВІ ЗАСАДИ УПРАВЛІННЯ РИЗИКАМИ ТРАНСНАЦІОНАЛЬНИХ БАНКІВ

Внутрішні системи управління ризиками призначені для попередження, виявлення та усунення негативних наслідків реалізації банківських ризиків. Досліджено наукові засади управління ризиками транснаціональних банків. Серед сукупності ризиків, на які наражається у процесі своєї діяльності транснаціональний банк, особливе місце посідають валютні ризики і ризики країн, до яких такі банки здійснюють експансію свого капіталу. Визначено, що специфічними проявами валютного ризику в діяльності транснаціонального банку є трансакційний і трансляційний ризики. Сформульовано проблему оцінювання сукупного ризику діяльності транснаціонального банку за допомогою універсального показника сукупного ризику через обсяг непередбачуваних фінансових втрат, які може зазнати банківська установа у процесі своєї діяльності.Визначено особливості управління специфічними ризиками, притаманними транснаціональним банківським операціям (трансакційний ризик, трансляційний ризик і ризик приймаючої країни), що передбачає вибір стратегії управління ризиками (ухилення від ризику, зниження та/або перерозподіл ризику, прийняття ризику) залежно від значень коефіцієнта ризику неочікуваних фінансових втрат транснаціонального банку. Це дозволить підвищити ефективність управлінських рішень та мінімізувати наслідків реалізації ризиків для фінансової спроможності банку.Сформульовано видову інтерпретацію ризиків транснаціональних банківських операцій, а саме: трансакційний ризик, трансляційний ризик і ризик приймаючої країни. Залежно від значень коефіцієнта ризику неочікуваних фінансових втрат транснаціонального банку запропоновано обрання конкретної стратегії управління ризиками. Здійснено градацію зон ризику залежно від значень інтегральної оцінки ризику неочікуваних фінансових втрат транснаціонального банку. Розроблено структурно-логічну схему вибору режиму нагляду за діяльністю транснаціональних банків. Схематично представлено концептуальний підхід до управління ризиками транснаціональних банків.

Basel III C: Internal Risk Models

For financial regulators seeking to use regulatory requirements to manage risk in a banking system, there can be a concern that such requirements crowd out efforts by banks to develop their own risk management systems. One way in which regulators have attempted to solve this problem is to enable banks to use internal risk models to satisfy regulatory requirements. Beginning with the 1996 Market Risk Amendment, the Basel framework has allowed banks to determine the capital charges associated with certain assets using their own internal risk models. But allowing the use of internal risk models has not been without controversy. Where some see an incentive for the development of internal risk management systems better able to address the unique risk profiles of particular banks, others see excessive complexity and uncertainty. And while some financial regulators are beginning to subject banks’ models to greater scrutiny, questions remain about the ability of financial regulators to provide effective oversight of such models.

A Study of Literature on Corporate Default Predictors

With the recent historic meltdown of global economies, with some of the long standing and firms of repute facing closure due to economic failure a need has come for existing businesses to start taking preventive measures in order to save themselves of the plight suffered by some of the most illustrious companies of the world. In order to do this, companies must start to retrospect their internal risk management systems objectively and subjectively, lending and investment policies previously adopted by them. Moreover we see a growing trend of capital providers adopting a capital preservation model over the growth model and accounting for default risk in their model is the need of the hour In this report, various models and techniques have been explained which have been developed by statistical and economic experts to predict financial distress over the past 5 decades and use the same in ranking companies/industries in order of their financial health. It has examined the most widely used and relevant prediction models and techniques of predicting default of the firms today. Most of these models focus on the fundamentals of the firm’s business. To couple this we have included a model which includes the fundamentals of the firms with the macroeconomic variables in the firm’s environment. The models we have discussed below have incorporated the fundamental risks of a business i.e. business risk and financial risks that a firm has to face and overcome for its long run survival. Further to that businesses are prone to risk which are not reflected in the balance sheet of the companies. Such risks are known as off balance sheet risks. Study incorporates the type and of off balance sheet transactions which elevates such risks. The data has been collected from the various research papers, Reuters database and websites.

TRANSFORMATIONS IN RISK MANAGEMENT OF CURRENCY EXCHANGE IN LITHUANIAN COMMERCIAL BANKS

After the adoption of International Convergence of Capital Measurement and Capital Standards (widely known as Basel II requirements) in 2004 the risk management in commercial banks has changed dramatically. Lithuanian commercial banks are in transitional period now adapting their risk management systems to Basel II requirements. Market risk is considered one of the key risks in bank risk management structure, so proper management of market risk is essential for a modern bank. Currency exchange risk usually is the main component of market risk. Currency exchange risk management in Lithuanian commercial banks was not good enough; also the Central Bank's regulatory limits were liberal. But after the adoption of Basel II requirements, the entire risk management system is transforming and currency exchange risk management is affected. The objective of this paper is to demonstrate the transformations of currency exchange in Lithuanian commercial banks and propose an effective model for commercial banking. These transformations are performed in the regulatory system imposed by the Central Bank of Lithuania and through transformations of the bank's internal risk management system moving to internal (usually VaR based) models. VaR models are considered as modern methods for risk management. These models proposed by Central bank or other authorities for internal and statutory risk management in commercial banks. In this article, the proposed variation‐covariation VaR model was tested with real data using the back‐testing method. Back‐testing showed that the proposed model is reliable enough, because the number of mismatches was less than 5 % in all tested currency pairs during all testing. In most currency pairs mismatches percentage was lower than 3 %. Back‐testing results confirm that the VaR method is reliable enough for day‐to‐day using by financial institutions and traders.

New Issues in Bank Regulation (The Quaid-i-Azam Memorial Lecture)

Deregulation, technology, and financial innovation are transforming banking. Indeed, banking is no longer the business it was even a few decades ago. The way banking services are provided has changed dramatically, and in many countries they are even offered by institutions that are quite different from traditional banks. As the old institutional demarcations become increasingly irrelevant, increased competition from other intermediaries has led to a decline in traditional banking in which banks took deposits and made loans that stayed on their books to maturity. Banks thus have been moving rapidly into new areas of business. In this evolving financial environment, the international banking community and the Basel Committee on Banking Supervision of the Bank for International Settlements (BIS) are currently wrestling with pinning down an appropriate regulatory framework. The regulatory response to these changes has been a move away from the increasingly ineffective command-and-control regulations to greater reliance on assessing the internal risk-management systems, the supervision of banks, and more effective market discipline. In the language of the New Basel Accord, this represents a shift in emphasis away from capital-adequacy rules toward supervision and market discipline. This paper provides an overview of the profound and rapid changes brought about by technology and deregulation, and discusses the hurdles that will have to be negotiated for putting in place a suitable regulatory framework. On the one hand, inadequate resolution of these challenges will create the wrong incentives and lead to banking fragility. On the other hand, overregulation carries the danger that it will retard the development of national financial systems, hinder the best use of available domestic savings, prevent countries from accessing international capital, and ultimately lead to slower growth. Developed financial systems are being challenged by the shift in regulatory focus, and the definition and implementation of appropriate regulatory standards is encountering substantial difficulties. Finding the right balance between regulation, supervision, and reliance on market discipline is likely to be even more difficult in developing and transition countries.