Operational Risk Aggregation across Business Lines Based on Frequency Dependence and Loss Dependence

In loss distribution approach (LDA), the most popular approach in operational risk modeling, frequency dependence and loss distribution dependence across business lines are two dependences which banks should consider. In practice, mainly for simplicity, many banks only model frequency dependence although they think that the impact of frequency dependence is insignificant. In this study, two approaches, respectively, models frequency dependence and loss distribution dependence, are introduced. Both approaches are modeled by copula function, which is capable of capturing nonlinear correlation. Based on the most comprehensive operational risk dataset of Chinese banking as far as we know, the operational risk capital charge of the overall Chinese banking is calculated by the two approaches. The results show that there is an obvious distinction between the capital calculated by modeling frequency dependence and the capital calculated by modeling loss dependence. The approach with very limited attention exactly yields a much larger capital result. So it is advised in this paper that banks should not just rely on the approach to modeling frequency dependence for it is natural and easy to deal with. A safer and more effective way for banks is to comprehensively take the results of the two kinds of approach into consideration

Operational Risk Aggregation across Business Lines Based on Frequency Dependence and Loss Dependence

In loss distribution approach (LDA), the most popular approach in operational risk modeling, frequency dependence and loss distribution dependence across business lines are two dependences which banks should consider. In practice, mainly for simplicity, many banks only model frequency dependence although they think that the impact of frequency dependence is insignificant. In this study, two approaches, respectively, models frequency dependence and loss distribution dependence, are introduced. Both approaches are modeled by copula function, which is capable of capturing nonlinear correlation. Based on the most comprehensive operational risk dataset of Chinese banking as far as we know, the operational risk capital charge of the overall Chinese banking is calculated by the two approaches. The results show that there is an obvious distinction between the capital calculated by modeling frequency dependence and the capital calculated by modeling loss dependence. The approach with very limited attention exactly yields a much larger capital result. So it is advised in this paper that banks should not just rely on the approach to modeling frequency dependence for it is natural and easy to deal with. A safer and more effective way for banks is to comprehensively take the results of the two kinds of approach into consideration

Analyzing Systemic Risk in the Chinese Banking System

We examine systemic risk in the Chinese banking system by estimating the conditional value at risk (CoVaR), the marginal expected shortfall (MES), the systemic impact index (SII) and the vulnerability index (VI) for 16 listed banks in China. Although these measures show different patterns, our results suggest that systemic risk in the Chinese banking system decreased after the financial crisis, but started rising in 2014. Compared to the banking systems of Korea and the US, we find that Chinese banks are at greater risk according to the CoVaR, the SII and the VI approaches, but have the lowest MES

Determinants of bank interest margins in Russia: Does bank ownership matter?

This paper analyzes interest margin determinants in the Russian banking sector with a particular emphasis on the bank ownership structure. Using a unique bank-level data covering Russia’s entire banking sector for the 19992007 period, we find that the impact of a number of commonly used determinants such as market structure, credit risk, liquidity risk and size of operations differs across state-controlled, domestic-private and foreign-owned banks. At the same time, the influence of operational costs and bank risk aversion is homogeneous across ownership groups. The results overall suggest the form of bank ownership needs to be considered when analyzing interest margin determinants.bank interest margins; financial intermediation; Russia

Operational Risk Capital Provisions for Banks and Insurance Companies

This dissertation investigates the implications of using the Advanced Measurement Approaches (AMA) as a method to assess operational risk capital charges for banks and insurance companies within Basel II paradigms and with regard to U.S. regulations. Operational risk has become recognized as a major risk class because of huge operational losses experienced by many financial firms over the last past decade. Unlike market risk, credit risk, and insurance risk, for which firms and scholars have designed efficient methodologies, there are few tools to help analyze and quantify operational risk. The new Basel Revised Framework for International Convergence of Capital Measurement and Capital Standards (Basel II) gives substantial flexibility to internationally active banks to set up their own risk assessment models in the context of the Advanced Measurement Approaches. The AMA developed in this thesis uses actuarial loss models complemented by the extreme value theory to determine the empirical probability distribution function of the overall capital charge in terms of various classes of copulas. Publicly available operational risk loss data set is used for the empirical exercise

Understanding the high profitability of Chinese banks

The big Chinese state-owned banks came as winners out of the global financial crisis. According to the Banker ranking, Chinese banks led the global banking profitability ranking through the years from 2008 to 2010 and contributed one fifth of global banking profits in 2010. The Chinese banking sector, which was deemed as wholly insolvent ten years ago, was reborn like a phoenix from the fire of the Asian financial crisis and the current financial crisis. The banking reform in the last decade with large-scale capital injection, assets carve-outs, restructuring and public listing celebrated great success. However, the low efficiency in Chinese banks is still persistent, as evident in many empirical studies (e.g. Feyzioglu, (2009)). The contradiction of high profitability and low efficiency causes great confusion in understanding banking in China. Our paper aims to reveal the real sources of the high profitability of the big Chinese banks. We compare their profitability pattern with peer banks from Asia, Europe and North America. We first test the hypothesis that the average asset return of the big five Chinese banks will fall below the international comparative level if the current high net interest margin given by the managed interest system in China falls to the international peer average level. Surprisingly, the hypothesis has to be rejected. Instead, our results show that the profitability of Chinese banks stays at international comparative level, despite the high inefficiency in Chinese banks. We therefore test a second hypothesis stating that the profitability of Chinese banks will fallbelow their international peers if staff costs increase by 30 percent in average to reach the international level, with the joint condition of margin decrease. This hypothesis can be proved, which means that the big five Chinese banks compensate its inefficiency by a combination of a non-competitive high interest margin and unsustainable lower labor cost. The above results of course raise the question how the big Chinese banks can stay competitive if China continues to liberalize its interest rate system and labor cost increases. In our concluding remarks, we discuss the possibility that Chinese banks change their business model towards universal banking with additional non-interest income to compensate the drop in interest margin. --China,banks,finance,banking business model,universal banking

Credit Exposure and Lending Decision Quality of Private Commercial Banks in Bangladesh: An Empirical Analysis

The main focus of this paper is to examine empirically the level of credit exposure and lending decision quality of local private commercial banks in of Bangladesh during the period of 2007-2011. Five financial ratios are selected for measuring credit performances of selected banks. By applying one way ANOVA it is found that NPLTL. LSRTL and LSRNPL ratios differ significantly while CAR and Tire_1 ratio do not differ significantly between conventional banks and Islamic banks in last five years. The empirical study also found that there is a satisfactory improvement in banks’ credit quality in last five years despite of certain fluctuations. It is also worth mentioned that level of credit exposure and quality of Islamic banks is much better than that of conventional banks in Bangladesh in last. Keywords: Credit Exposure, Lending decision, Non-performing loan, Capital Adequacy rati

How corporate banking institutions manage non-performing loans: Case study on BNP Paribas’ approach to credit risk management

The following dissertation delves into the intricacies of BNP Paribas' approach to managing non-performing loans (NPLs), offering a multi-layered perspective on the bank's internal practices. The study highlights the distinctive approaches of BNP Paribas' risk-aware management strategy, which resulted in a low NPL-to-loan ratio and a high loan loss reserve-to-NPL ratio, positioning the bank favorably compared to its peers. A significant emphasis is placed on the role of NPLs in affecting economic growth. Despite a subprime post-crisis reduction in NPLs, they continuously pose a substantial threat to banks and the broader European economy. NPLs diminish banks' profitability as resources are allocated to cover expected losses (provisions), reducing funds available for lending to households and companies, thereby hampering growth and job creation. Furthermore, the study acknowledges the adoption of the Basel III reporting standards and its impact on BNP Paribas' risk management practices. The bank aligns with these regulations and reinforces risk assessment and monitoring, allowing for early NPL identification and preemptive intervention. BNP Paribas' NPL management strategy demonstrates a successful integration of risk mitigation, early intervention, and proactive communication with distressed borrowers. This approach is in line with the broader trend in major French banking institutions, underscoring the importance of regulatory compliance and risk-aware strategies in the modern banking sector. This report offers valuable insights into the intricate realm of NPL management and its implications for financial stability.A seguinte dissertação investiga os métodos da abordagem do BNP Paribas à gestão de crédito não produtivo, oferecendo uma perspetiva a vários níveis das práticas internas do banco e o cumprimento dos regulamentos em vigor. O estudo salienta as abordagens prudentes da estratégia de gestão de risco do BNP Paribas, ilustradas por um baixo rácio de créditos não produtivos e elevado rácio de reservas para perdas com empréstimos, posicionando o banco favoravelmente em comparação com os seus rivais. O relatório analisa o papel do crédito vencido no modelo de negócio de grandes instituições financeiras, e de maneira macroeconómica no crescimento global. Apesar de uma redução dos níveis de crédito não produtivo após a crise de 2007, continuam a representar uma ameaça substancial para os bancos e para a economia europeia. Diminuem a rendibilidade dos bancos, uma vez que são afetados recursos para cobrir as perdas esperadas (provisões), reduzindo os fundos disponíveis para a concessão de empréstimos a famílias e empresas, prejudicando assim o crescimento e a criação de emprego. Adicionalmente, o estudo abrange a adoção das normas de Basel III e o seu impacto nas práticas de gestão do risco do BNP Paribas. A estratégia de gestão de risco do BNP Paribas demonstra uma integração bem sucedida do regulamento de atenuação do risco e intervenção precoce. Esta abordagem está em consonância com a tendência geral das principais instituições bancárias francesas, sublinhando a importância do cumprimento da regulamentação e das estratégias de risco no sector bancário moderno. Este relatório oferece observações sobre a área da gestão de crédito não produtivo e as implicações para a estabilidade financeira

Efficiency and profitability of European banks: how important is operational efficiency?

Most previous research on efficiency in banking takes a regulatory perspective. In contrast, this paper investigates the empirical relation between efficiency and profitability in five large economies of the European Union during the period 1998-2005 and discusses the results from the perspective of corporate bank strategy. Methodologically the existing literature is expanded by the use of DEA super-efficiency values to regress profitability, the incorporation of risk by calculative costs of capital, and a model specification built on the modern understanding of banks as centers of value creation. The results of the conducted static and dynamic regression analyses show that profitable banks operate with higher technical efficiency than their competitors. Furthermore, the strategic environment and in this regard the structure and concentration of the national financial sector have a considerable impact on a bank's financial performance. Both issues proved to be statistically and economically significant. Thus, the results support the appropriateness of the generic strategy of cost leadership for the European banking market. Banks following this strategic position were able to achieve higher excess returns during the analyzed period. --Banks,corporate strategy,efficiency,operational efficiency,profitability