bank risk management in developing economies · 6. bank marketing paradox and risks management in...

Bank Risk Management

in Developing Economies

Addressing the Unique Challenges of

Domestic Banks through Risk Management

Leonard Onyiriuba

ELSEVIER

AMSTERDAM • BOSTON • HEIDELBERG ' LONDON NEW YORK • OXFORD • PARIS • SAN DIEGO

SAN FRANCISCO • SINGAPORE • SYDNEY • TOKYO Academic Press is an imprint of Elsevier

Contents

Preface xxv

PART I BACKGROUND AND OVERVIEW

1. Risk, Uncertainty, and Banking Dynamics in Developing Economies

Learning Focus and Objectives 3 Expected Learning Outcomes 4 Overview oftheSubject Matter 4 Distinguishing Domestic Banks from Foreign Banks Subsidiäres 5 Realistically Distinguishing Domestic from Foreign

Subsidiär/ Banks 7 Conceptualizing and Defining Risk and Uncertainty 11 Summary 16 Questions for Discussion and Review 17 References 17 Further Readings 18

2. Perspectives on Predisposition of Banking to Risk in Developing Economies

Learning Focus and Objectives 19 Expected Learning Outcomes 20 Overview of the Subject Matter 20 Common, butVarying Intensity of, Proneness of

Banking to Risk 21 Factors of General Predisposition of Banking to Risk 25

Bank as Depositor/ for Money 25 Cash as Bank Inventory 26 Insider Infidelity and Abuse 27 Money Dealing—Staking Other People's Money 28 Tendency to Overtrading 28 Taking on Financing and the Risks of Borrowers 30 Incidence and Complexities of Banking Frauds 31 Caps in Adoption of Rules of Best Practice 33 Social Glorification of Wealth 34

Mitigating the Intensity of the Risk-Proneness of Domestic Banks 34

vii

viii Contents

Summary Questions for Discussion and Review References

PART 11 PARAD1GM SHIFT, CONCERNS, AND INSIGHTS

3. Banking Revolution, Paradigm Shift, and Risk Management in Developing Economies

Learning Focus and Objectives Expected Learning Outcomes Overview of the Subject Matter Anticipation, Buildup, and Dynamic of Revolution in Banking Welcome, Skepticism, and Concern About Banking

Revolution in Developing Economies Creation, Nature, and Dynamics of Novel Risks in Banking Revolution

Internet Fraud (General) Phishing Cybercrime Cards Fraud

Mechanisms of Novel Risks in Banking Revolution Hacking into Computers and Databases Cloning Smartcard Chips and Websites Theft of Identities of Bank Customers

Mitigating Risks of Revolution in Banking Bank Management's Roles in Novel Risks Control Customer Education Security of Bank Websites Encryption of Data and Files Adoption of Unique Banking Codes

Summary Questions for Discussion and Review References

4. Enterprise Risk Management—A Paradigm Shift and Applications in Banking

Learning Focus and Objectives Expected Learning Outcomes Overview of the Subject Matter Managing Risks in Domestic and Foreign Subsidiary Banks Life Cycle of Risk Management Process in Banking

Defining Risk Control Contexts Identifying Potential Risks Analyzing Risk Events and Issues Mitigating Impacts of Risks Monitoring and Feedback

35 36 36

39 40 40 41

46 48 48 49 49 50 50 51 52 52 53 54 54 55 56 56 57 57 58

59 60 60 61 65 66 66 66 67 67

Contents ix

ERM Concept—a Paradigm Shift and Applications in Banking 68 ERM Hallmarks and Strict Applications in Banking 71 ERM Functions and Significance in Banking 72

Builds and Broadens Risk Consciousness 72 Enhances Risk Sensitivities 72 Institutionalizes Risk Culture 73 Maximizes Opportunities 73 Anticipates Risk Events 73 Optimizes Resources 74

Summary 74 Questions for Discussion and Review 75 Reference 75

5. Strategy, Paradigm Shift, and Positioning for Business and Risk Management in Banking

Learning Focus and Objectives 77 Expected Learning Outcomes 78 Overview of the Subject Matter 78 Retail Banking Focus, Risks, and Mechanisms of Control 79 Branch Banking, Coordination, and Risks Control 81 Wholesale Banking and Mechanisms of Risk Control 85

Blue-Chip Companies 85 Private Sector Driven 85 Sales Turnover and Activities 86 Formal Organization Structure 86 Good and Focused Management 87 Realistic Business Strategy 87 Financial Accounts and Reporting 88

Cultural Issues and Prospects in Bank Positioning 88 Evolving and Sustaining Banking Culture 89 Role of Subcultural Values 90 Supplanting the Unorthodox Banking Practices 91 Survival of the Unorthodox Banking Systems 92

Summary 94 Questions for Discussion and Review 94 References 95

6. Bank Marketing Paradox and Risks Management in Developing Economies

Learning Focus and Objectives 97 Expected Learning Outcomes 98 Overview of the Subject Matter 98 Risk Control Need for Marketing in Banking 99

Customer Satisfaction 99 Growth Potential 99 Nature of Services 99 Budget Pressure 99

x Contents

Cultivation of Market 100 Competition 100

Avoiding the Pitfalls of Marketing Calls 100 Integrating Customer Needs with Marketing Goals 101 Managing Risk Through Prebanking Marketing Research Initiative 102 Cultivating Stakeholders in Banking for Marketing Risks Control 104 Mitigating Banking Risks Through Relationship Marketing 105 Internal Risk-Mitigating Information for Effective Bank Marketing 106

Bank-Related Marketing Information 107 Background Information 108 Financial Analysis and Standing 108 Branch Locations and Policies 108 International Offices and Affiliations 108 Operational Policies and Guidelines 109 Goodwill and Reputation 109

Externa! Risk-Mitigating Information for Effective Bank Marketing 109 Prospects for the Future 110 Summary 110 Questions for Discussion and Review 111 Reference 111

Section A Public Concern and Outcry

7. Risk, Safety, and the Future of Deposit Money Banks in Developing Economies

Learning Focus and Objectives 115 Expected Learning Outcomes 116 Overview of the Subject Matter 116 Safeguarding Banks Against Interrelated Risks in

Developing Economies 117 Situating Risk and Safety of Deposit Money Banks in

Developing Economies 118 Risk-Safety Divide Across Domestic and Foreign Subsidiary Banks 120 Measures of Risk and Safety of Deposit Money Banks in

Developing Economies 123 Summary 124 Questions for Discussion and Review 125 References 126

8. Money Laundering Links with Bank Risks and Management in Developing Economies

Learning Focus and Objectives 127 Expected Learning Outcomes 128 Overview of the Subject Matter 128 Meaning and Domestic-Foreign Subsidiary Banks Links 129

Contents xi

Money Laundering Dynamics and Links with Corruption 132 Corruption and Money Laundering Tendencies 134 Mechanisms of Corruption and Money Laundering 135

Economic and Business Policies vis-ä-vis Check on Money Laundering 136

Detecting and Forestalling Money Laundering in Bank Accounts 138 Know Your Customer Rules 138 Obtain Identification Evidence 139 Ascertain Nature and Level of Business 139 Establish True Identity of Customers 140 Adopt Proven Identification Process 140 Certify Identification Documents 141

Risk-Based Laws and Regulations Against Money Laundering 141 Summary 142 Questions for Discussion and Review 143 References 144

Bank Crisis, Distress Syndrome, and Failure Risk Management in Developing Economies

Learning Focus and Objectives 145 Expected Learning Outcomes 146 Overview of the Subject Matter 146 Framework for Solving Domestic Banks Crisis, Distress, and Failure 147

Historical Evidence 147 Defining the Problem 149 Discredited Practices 149 Anticipating Distress 149

Anticipating and Analyzing Domestic Banks' Distress Syndrome 149 Solving Domestic Banks' Crisis, Distress, and Failure Risks 151

Management Problems 152 Fraudulent Practices 153 Assets Deterioration 154 Poor Capitalization 154 Weak Earnings Capacity 155 Rising Cost of Funds 156 Adverse Policy Changes 156

Detecting Early Warning Signs of Domestic Banks' Distress 157 Summary 157 Questions for Discussion and Review 158 References 159

Banking Quirks, Regulatory Responses, and Supervision in Developing Economies

Learning Focus and Objectives 161 Expected Learning Outcomes 162 Overview of the Subject Matter 162

xii Contents

Banking Regulatory Authorities in Developing Economies 163 The Presidency—in Democratic Covernments 164 Central Bank of Nigeria 164 Nigerian Deposit Insurance Corporation 165

Legal Instruments and Challenges of Banking Regulation and Supervision 168

The Observed Challenges and Implications 169 Defining Issues in Banking Quirks and Regulation in

Developing Economies 170 Autonomy for Banking Regulatory Authorities 171 Albatross for Banking Supervision in Developing Economies 172 Regulatory Responses to Failing Banks in Developing Economies 173

Moral Suasion 174 Holding Actions 174 Assumption of Control 175 Acquisition, Revocation of License, or Liquidation 176


Section B New Insights and Concerns

11. Couritry Risk of Banking in Fledgling Economies Mired in Slippery Political Terrain

Learning Focus and Objectives 181 Expected Learning Outcomes 182 Overview of the Subject Matter 182 Local Populace Disillusioned with Politics 186 Ethnic Foundation of the Polities 188 Alien Political Models, Structures, and Norms 191 Military Intervention in Politics 194 Politicized Versus Apolitical Civil Service 196 Questionable, Illegitimate, and Ineffectual Regimes 198 Terrorism, Guerrilla, and Civil Wars 200 Summary 201 Questions for Discussion and Review 202 References 203 Further Readings 203

12. Public Sector Banking Analysis and Risks Management in Developing Economies

Learning Focus and Objectives 205 Expected Learning Outcomes 206 Overview of the Subject Matter 206 Significance and Business Orientation of Public Sector 207

Contents xiii

Framework of Public Sector Banking Analysis Size and Composition of Public Sector Sources of Government Revenue Government Expenditure Profile

Banking Potential of the Public Sector Role and Influenae of Public Sector Liquidity Boosting Capabilities Management of Domestic Funds Management of External Reserves Financing of Public Sector Projects

Characterizing Public Sector Banking Confidentiality of Transactions Caliber of Marketing Personnel Personal Attribute of Endurance Extensive Personal Network Routine Transactions, Traditional Products Publicity of Public Sector Transactions Irregulär Work Schedules

Summary Questions for Discussion and Review Reference

13. Bank Strategie Business Units Flannings Marketing and Risk Management

Learning Focus and Objectives 223 Expected Learning Outcomes 224 Overview of the Subject Matter 224 Meaning and Overview of Business Flanning in Banking 225 Strategy Versus Flanning for Banking Business and

Risk Management 226 Need for Clear Bank Business Flanning Directives 227 Preparation and Components of banking Business Plan 228

Executive Summary 229 Review of Previous and Current Years 230 Situation Analysis 231 Office Location 231 Business Objectives 236 Strategy Statement 237 Action Programs 239 Financial Aspects and Projections 239 Critical Success Factors 241

Presentation Problems and Tips for SBU Managers 242 Approval of Banking Business Plan 243 Monitoring and Control of Banking Business Plans 243 Summary 244 Questions for Discussion and Review 245 Reference 245

209 209 209 210 211 211 211 212 213 214 215 216 216 217 217 218 218 219 219 220 221

xiv Contents

14. Bank Governance Pitfalls, Failings, and Risk Management in Developing Economies

Learning Focus and Objectives 247 Expected Learning Outcomes 248 Overview of the Subject Matter 248 Integrating Corporate Objectives with Personal Goals 250 Tendency to Personal Governance in Banking 255

Dictatorial Chief Executives as Albatross for Banks 256 Consolidating Risk Control Resources for Bank Governance 257 Bank Members, Governance, and Stakes in Banking 259

Shareholders' Expectations 260 Bank Employees 260

Risk-Based Approach to Motivating Bank Workforce 261 Bank Managements as Risk-Bearing Corporate Leaders 262 Risk Control Lessons of Situation-Based Leadership for

Bank Managements 263 Forces in the Leader 263 Forces in the Subordinates 264 Forces in the Situation 264

Risk Control Lessons of Contingency-Based Leadership for Bank Managements 264

Summary 265 Questions for Discussion and Review 266 References 266 Further Reading 266

PART III REINVENTING RISK MANAGEMENT

Section A Credit Risk 15. Bank Credit Risk Issues and Management

Requirements in Developing Economies

Learning Focus and Outcomes 271 Expected Learning Outcomes 272 Overview of the Subject Matter 2 72 The State of Banks Lending and Credit Risk Crisis in

Developing Economies 273 Bank Credit Risk Peculiarities of Developing Economies 275

Overambitious Budget Goals 276 Turbulent Times 278

Culprits for Bank Credit Risk Crisis in Developing Economies 279 Reckless Bank Lending 279 Excessive Risk-Taking in Bank Lending 280 Illegal Lending and Credit Fraud 282 Insider Abuse 283

Contents xv

Management Structure for Bank Credit Risk Management 283 Credit Strategy Committee 283 Watch-List Committee 285

Relating Credit Risk to Bank Capitalization in Developing Economies 286 Bank Credit Risk Perspective and Implications of the

Basel Capital Accord 287 Constituents of Capital 287 Risk-Weighting System 290 Credit Risk Management Implications of the Risk-Weighting System 294


16. Bank Assets Portfolio Structure and Risk Management in Developing Economies

Learning Focus and Objectives 297 Expected Learning Outcomes 298 Overview of Subject Matter 298 Theories of Assets Management in Banking 299

The Pool-of-Funds Theory 300 Assets Allocation Model 302

Elements and Composition of Bank Assets Portfolio 304 Cash Items 304 Short-Term Funds 304 Marketable Securities 306 Investments 308 Fixed Assets 310 Loans and Advances 310

Credit Concentration and Risk Management in Developing Economies 311

Credit Portfolio Distribution, Maturity Profiles, and Risk Management 314


17. Sensitizing Bankers in Developing Economies to Securitization Risks and Management

Learning Focus and Objectives 321 Expected Learning Outcomes 322 Overview of the Subject Matter 322 Simplifying the Concept of Securitization 323 Objectives and Uses of Securitization 325

Unlocking Funds Tied up in Loans 325 Optimizing Income and Returns 326 Mitigating Credit Risk 327 Creating Alternative Cash Flow Source 327

xvi Contents

Managing the Balance Sheet 328 Tapping into Opportunities 329 Funding New Investments 329

The Workings and Dynamics of Loan Securitization 330 Parties to Loan Securitization 331 Documentation and Rating of Securities 333

Significance and Applications of Securitization 334 Summary 335 Questions for Discussion and Review 336 References 337

18. Credit Ratings Prospects and Practicalities for Banking in Developing Economies

Learning Focus and Outcomes 339 Expected Learning Outcomes 340 Overview of the Subject Matter 340 Meaning and Scope of Credit Rating 341 Purposes of Credit Ratings 342 Credit Scoring for Consumer Lending 343 Credit Rating Prior to Basel II—from the Perspective

of Developing Economies 344 Effect of Basel II on Credit Rating 345 Credit Rating Methods Approved by Basel II 346

Standardized Approaches 346 Internal Ratings-Based Approaches 351 Standardized Versus IRB Approaches 353

Risk Control Implications for Banking in Developing Economies 353 Summary 354 Questions for Discussion and Review 355

Section B Liquidity Risk

19. Bank Balance Sheet and Liquidity Risk Management in Developing Economies

Learning Focus and Outcomes 359 Expected Learning Outcomes 360 Overview of the Subject Matter 360 Identifying and Mitigating Bank Balance Sheet

and Liquidity Risks 361 Liquidity Demands of Risk Aversion 361 Mitigating Exposure to Systemic Risk 363 Balancing Assets Against Liabilities 363 Checking Risk in Funding Assets 364 Relating Credits and Deposits Terms 364 Insights into Loan to Deposit Ratio 365

Contents xvii

Solving Bank Capitalization-Induced Balance Sheet and Liquidity Risks 365

Regulating and Measuring Adequacy of Bank Capitalization 366 Startup or Base Capital 367

Bank Liquidity Issues, Measures, and Risk Management in Developing Economies 368

Loan-to-deposit Ratio 368 Cash Reserve Ratio 372 Liquidity Ratio 372

Summary 376 Questions for Discussion and Review 377 Further Readings 377

20. Bank Liabilities Portfolio and Liquidity Risk Management in Developing Economies

Learning Focus and Objectives 379 Expected Learning Outcomes 380 Overview of the Subject Matter 3 80 Conceptualizing Liquidity in the Context of Banking 381 Meaning of Liquidity 383 Liquidity of Assets 383 Liquidity of a Bank 385 Measuring Liquidity of a Bank 385 Integrating Cashflow with Mitigation of Bank Liquidity

and Funding Risks 386 Spreadsheet Applications in Bank Liquidity and Funding

Risks Management 388 Inputfrom Financial Control Input 390

Liabilities Generation and Build-Up as Bank Funding Strategies 392 Deposit 392 Demand Deposit Account 393 Savings Deposit Account 394 Time Deposits 395 Float-Oriented Account 395

Monitoring and Staving off the Factors of Liabilities Portfolio Risks 396

Summary 398 Questions for Discussion and Review 399 Reference 399 Further Readings 399

21. Bank Liquidity Crisis and Funding Risk Management in Developing Economies

Learning Focus and Outcomes 401 Expected Learning Outcomes 402 Overview of the Subject Matter 402

xviii Contents

Regulatory and Theoretical Challenges of Bank Liquidity Management 403

Commercial Credit and Lending Perspectives on Bank Liquidity Risk 404

Import of Self-Liquidating Loans 405 Limitations and Implications 406 Neglect of Needs of Growing Economies 406 Fallacy of Self-Liquidating Loans 406 Possible Stability of Deposit Base 407 Irrelevant Düring Business Lull 407

Switching Assets in Grappling with Challenges of Bank Liquidity 408 Eligibility of Securities 408 Merits and Demerits of Asset-Switching 409

Anticipating Income from Loans to Mitigate Bank Liquidity Risk 409 Shortcomings and Criticisms 410

Liability-Management Liquidity Theory—Evolving Issues and Perspectives 411

Shortcomings and Implications 412 Bank Treasury Crisis in Developing Economies 412 Management Structure for Bank Liquidity Risk Management 413

Executive Committee 414 Credit Strategy Committee 414 Assets and Liabilities Committee 415

Summary 416 Questions for Discussion and Review 417 References 418 Further Reading 418

22. Macroeconomic Challenge of Liquidity Risk for Banking in Developing Countries

Learning Focus and Objectives 419 Expected Learning Outcomes 420 Overview of the Subject Matter 420 Macroeconomic Management Issues in Developing Economies 421 Monetary Policies Bearing on Banking Risks and Control 423

Monetary Policy Goals and Controls 424 Bank Risk Fallout of Indirect Instruments of Monetary Policy 426

Open Market Operation 426 Meaning and Purpose 426 Differentiating OMO markets 427 Major OMO Participants 427 Instruments of OMO Transactions 428 Procedura for OMO Dealing 428 Significant OMO Benefits 429 Risk Implications of OMO for Banks 429 Reserve Requirements 430 Discount Window Operation 431 Moral Suasion 431

Contents xix

Bank Risk Implications of Direct Instruments of Monetary Policy 432 Debt Bürden, Crisis, and Fiscal Policy Impact on

Banking Risks and Control 432 Quality and Applications of Borrowing 432 Rethinking the Purpose of Borrowing 433 Suspect Criteria of Lending to Government 434 Revisiting the Causes of Foreign Borrowing 435

Market Liquidity Determinants and Interest Rate Risk in Banking 435


Section C Market Risk

23. Market Risk, Interest Rates and Bank Intermediary Role in Developing Economies

Learning Focus and Objectives 443 Expected Learning Outcomes 444 Overview of the Subject Matter 444 Assessing the Role of Banks as Intermediaries in Financial Markets 445 Concepts and Applications of Market Risk in Banking 447

Interest Rate Risk 448 Foreign Exchange Risk 448

Situating Market Risk of Banking in Volatile Sources and Cost of Funds 449

Factors Underlying Market Risk in Banking 450 Size of Capital Funds for Banking 450 Risk-Return Trade-Off 451 Deposits Liabilities Base 451 Monetary Policies and Control 452 Prevailing Economic Conditions 453 Regulatory Maneuverings 453

Market Risk Fallout of Flaws in Monetary Policy and Management 454 Summary 456 Questions for Discussion and Review 456 References 457

24. Foreign Exchange Markets and Triggers for Bank Risk in Developing Economies

Learning Focus and Objectives 460 Expected Learning Outcomes 460 Overview of the Subject Matter 461 Background to Foreign Exchange Intricacies in

Developing Economies 462 Foreign Exchange Management Process and Policy Implications 463

Contents

Foreign Currency Markets and Risk Management 468 Forms of Foreign Currency Markets 468 Central Bank (Interbank) Market 468 Autonomous Market 469

Market Deals, Process, and Risk Management 469 Spot Transactions 470 Forward Contracts 470 Swap Deals 472 Option Deals 472 Interbank Placements 473

Interbank Dealing Process, Risks, and Management 474 Primary Dealing Rules 474 Mode of Trading 474 Two-ways Quoting System 474 Dealer's Word is Their Bond 475 Conti rmation of Deals 475 Elements of Transactions 475 AmountTraded 475 Settlement Risk 476 Currencies and Rates Quotes 476

Dealing Arrangements and Risk Management 476 FX Commitments and Margins 477 Value-dating Deals 477 Determining Spreads 477 Obligation to Quote 478 Settlement of Deal 478 Default and Remedial Action 478 Rights and Obligations of the Dealers 479

Foreign Exchange Risks Beckoning for Banks in Developing Economies 479 Challenge of Autonomous Markets for Bank FX Risks Management 481 Summary 483 Questions for Discussion and Review 484 References 484 Further Readings 485

Money Market Workings, Instruments, and Bank Risk in Developing Economies

Learning Focus and Objectives 488 Expected Learning Outcomes 488 Overview of the Subject Matter 488 Defining and Characterizing Money Markets in

Developing Economies 489 Major Money Market Players in Developing Economies 491

Central Bank 491 Authorized Dealers 492 Nonbank Financial Institutions 492 Deposit Insurance Corporation 492 Importers 493 Exporters 493

Contents xxi

Borrowers in Dornest!c Currency 493 Depositors in Domestic Currency 494 Speculators 494 Sundry Other Participants 494

Domestic Currency Instruments of Money Markets 494 Cash and Short-Term Funds 495 Treasury Deposits and Certificates 495 Interbank Placements 496 Treasury Bills 496 Open-Buy-Back 497 Repurchase Agreement 497 Central Bank's Advances to Banks 498 Credit Products and Facilities 498 Commercial Bills and Acceptances 498 Commercial Papers 498 Bankers' Acceptances 499 Bank Cuarantee 500

Foreign Currency Instruments of the Money Market 501 Domiciliary Accounts 501 Export Proceeds 501 Government FX Funds 502 Personal FX Funds 502 Foreign Currency Loans 502 Letters of Credit 503

Dealing Procedures, Terms, and Risk Management 504 Accreditation of Dealers 504 Standard Dealing Hours 504 Dealing Procedure 504 Mode of Communication 504 Currency for Trading 505 Amounts Traded 505 Tenor of Transactions 505 Deals Confirmation Process 505 Delivery of Instruments 506 Settlement of Deal and Risk 506 Notice of Termination of Transaction 506 Termination of Transaction 507 Rollover of Transactions 507 Disputes and Misunderstandings 507


26. Capital Market Dynamics, Securities, and Bank Risk in Developing Economies

Learning Focus and Objectives 511 Expected Learning Outcomes 512 Overview of the Subject Matter 513 Defining and Appreciating the Significance of Capital Markets 513

xxii Contents

Characterizing Capital Markets in Developing Economies 515 Primary Market 515 Secondary Market 515 Bonds Market 516 Distinguishing Features of Bonds 517

Major Players and Participants in Capital Markets in Developing Economies 518

SEC, Market Regulation, and Risk Management 519 Stock Exchange—Investor Watch Dog and Hub of

Transactions in Securities 520 Domestic Currency Instruments of the Capital Market 524

Ordinary Shares 524 Preference Shares 524 Debenture Stocks 525 Equity Versus Debt as Domestic Currency Instruments 525

Foreign Currency Instruments of the Capital Market 526 FX Futures Contract 527 Differentiating Futures from Option 528 Comparing Futures with Forward Contracts 529

Boom to Bust Mechanisms of Capital Market Risks in Developing Economies 530

Summary 532 Questions for Discussion and Review 533

Section D Operational Risk

27. Bank Operational Risk Dynamics and Management in Developing Economies

Learning Focus and Objectives 537 Expected Learning Outcomes 538 Overview of the Subject Matter 538 Defining Operational Risk and its Applications in Banking 539 Nuances of Operational Risk Dynamics and Interactions 543

Industry and Operational Risk Interaction 543 (nteraction Between Business and Operational Risk 543 Linking Financial Risk with Operational Risk 544 Market Risk Interface with Operational Risk 544

Interface Between Liquidity and Operational Risk 546 Summary 546 Questions for Discussion and Review 547 Reference 547

28. Bank Work, Employees, and Operational Risk Management in Developing Economies Learning Focus and Objectives 549 Expected Learning Outcomes 550

Contents xxiii

Overview of the Subject Matter 550 Operational Risk in Negative Work Disposition 551 Pressure of Work vis-ä-vis Operational Risk in Banking 552 Operational Risk in Lack of Enthusiasm for Work 554

Disturbing Family Pressures 555 Upset of Personal Goals 555 Low Work and Service Morale 556 Dissatisfaction with Work 556 Loss of Faith in Seif and Employment 557

Risk-Determining Interface Between Business and Operations Banking 558

A Split Spurred by Risk Considerations 558 Pacing up to Risk and Disabusing Employees of Notions of Blas 560 Taming Business Banking with Risk-Based Controls 562 Risk-Based Approach to Em power Business Managers 564 Managerial Response to Employee Situations 565 Handling Difficult Employees and Customers 566 Summary 566 Questions for Discussion and Review 567 Reference 568

29. Banking Processing and Operational Risk Management in Developing Economies

Learning Focus and Objectives 569 Expected Learning Outcomes 570 Overview of the Subject Matter 570 An Insight into Operational Risks of Banking in

Developing Economies 571 Operational Risks in Banking Transactions Processing 573

Errors and Risks in Transactions Processing 574 Usual Causes of Processing Errors 576 Measuring Transactions Processing Errors 577 Effects of Transactions Processing Errors 578 Control of Transactions Processing Errors 579

Risks and Controls in Paying and Clearing Checks 581 Checks Lodged in Savings Account 582 Crossed Check Paid Over-the-Counter 582 Honoring Stopped Check 582 Non or Wrong Confirmation of Check 582 Non or Wrong Verification of Signature 582 Paying Third Party Check 582 Releasing Checkbook to a Third Party 583 Suppression of Check 583 Unauthorized Access to Account Balance 583 Wrong Sorting of Checks 583

Stemming Operational RisksThrough Reconciliation of Accounts 583 Interbranch Accounts 584 Call-Over of Transactions 584

xxiv Contents

Control or Mirror Accounts 584 Mirror Account 584 Nostro Account 585 Vostro Account 585 GL Reviews and Proofs 585 Vault Cash 586


30. Banking Frauds and Operational Risk Management in Developing Economies

Learning Focus and Objectives 590 Expected Learning Outcomes 590 Overview of the Subject Matter 590 Defining Fraud and its Connotations in Banking 591 Insights Into Fraud-Driven Operational Risk in Banking 593 Tracing the Root Causes of Frauds in Banking 594

Society and Negation of Moral Values 594 Upbringing, Background, and Lifestyle 594 Internal Bank Workings and Controls 595 Dysfunctional Legal Frameworks 595

Dynamic and Psychology of Banking Fraud 596 lnside Job—Characteristics, Dynamic, and Stakes 597 Fraud From the Outside—First Principles and Build-Up 598 Collusion for Fraud—Enlisting Connivance of an Accomplice 599

Profiling Banking Fraudsters and Putting Their Acts Into Perspective 600 Lone Fraudster 601 Fraud Syndicate 601 Fraud Accomplices 603

Deciding and Applying Instrument of Fraud 604 Dealing with Frauds in Banking—an Administrative Emphasis 607

Current Approaches to Fraud Control 608 Regulär Fraud Control Measures 608 Supplementary Inputs into Fraud Control 608 Integration of Ancillary Fraud Control Measures 609 Complementary Approaches to Fraud Control 610 Reinventing Bank-Employee Organic Relationship 610 Evolving a Workable Solution to the Scourge of Frauds 611 Risk Management Implications of the Complementary Approaches 611 Weifare and Compensation Packages 612 Motivation of the Employees 612 Fair Treatmentof the Employees 612 Equitable Employees Reward System 613 Making Career in Banking Pensionable 613


Index 617