The business environment is always susceptible to various types of disturbances that might hinder the normal functioning of firms. It is therefore important for any firm to be prepared at all times to curb any risks, but most importantly firms should put in place measures to curb any impending danger to the normal operations. Recently, the process of ensuring that threats to the business are identified early and necessary actions taken has become trick due to the increase in the number and complexity of the threats to be addressed. On top of that, in times of crisis when the whole environment is in unstable situation, risk management becomes rather more complicated because even what was not a threat hitherto becomes a threat.
A crisis is situation that impacts negatively on the firm and may cause financial or reputation losses. It can also be defined as a situation that the stakeholders of a firm consider as harmful to the general continuity of the firm besides disrupting the way a firm conducts its operations. Crisis ranges from internal risks, natural disasters to technological and economic or financial crisis that affects a relatively large number of businesses at the same time (Madura 402). On the other hand, risk management refers to deliberate measures that are taken to ensure that any issue that may disrupt normal functioning of the business is controlled or addressed effectively and in good time. These are efforts that are made mostly during decision making process to ensure that normal operations of the firm are not affected in anyway when the business environment changes (Fennelly 15). When carrying out risk management, the firm intends to reduce the exposure to instances that will cause the firm to make losses.
Difficulties of Risk Management during Crisis
During crisis the process of risk management becomes essentially crisis management as the firm is compelled to act according to the situation at hand. To start with, management does not have enough time to weigh the decisions that are made during crisis since the point of concentration changes from effectiveness to speedy, making the firm to, most of the times, result to quick fixes. It should be noted that, during crisis it is difficult to know the actual impact that should be expected or the duration that the crisis will persist and therefore all steps taken are just to manage the current situation with the hope that the crisis will not cause further effects (Brigham and Joel 33).
Additionally, many firms depend on the past experience and information in identifying possible risks on the assumption that, risks have a tendency of repeating themselves. But the current level of technological advancement and change in business environment has led to emergence of new risks, which end up getting management unprepared if they concentrate on traditional risks. Additionally, during crisis the possibility of overlooking other potential risks is high and these risks might be very harmful thus leaving another impending crisis unaddressed. On top of that, the probability of the risks changing is high nowadays especially in the financial markets where risks have a tendency of changing very fast (Fennelly 53). This leaves the managers with little time to control any given risks thus changing the process of risk management to crisis management.
Furthermore, the probability that all risks are not reported especially during crisis, because people do not want to be blamed for the company losses, is high and this leads to some risks going unnoticed making it difficult for the management to properly tackle the situation. On the same note, risk management is a very dynamic issue and if not effectively executed the probability of failing is high (Madura 499). Unfortunately, management at the right time is, in most cases, not met because it takes time for the information to reach the management for actions in which time the risk will have caused damage.
How can Bank Management Reduce Risks
Financial institutions are among the institutions that are faced with greater risks, because the financial market is highly dynamic and the risks involved change very quickly therefore making it difficult to have a real time solution. To begin with, risk management needs to be addressed by human beings and not left entirely on machines because a lot of e experience and up to date information is required to come up with timely solutions (Fennelly 54). On top of that, the models used in risk management should be dynamic to allow for changes to be done from time to time thus accommodating any type of new risks that may arise.
Banks also need to manage risk from the system point of view where by individual banks take into consideration the effects of activities by other players in the system. Banks should adequately manage speculators who will help in increasing prices of various assets unnecessarily thus leading to asset bubbles. On the same note, individual banks should avoid speculative investment and loan advancements to fund speculative projects which fuels market bubbles and thus leading to crisis (Madura 507). In conjunction with that, banks should exercise equal scrutiny to all their clients and avoid the traditional approach of emphasizing on influential clients only because the assumption of other clients amounts to ignoring possible risks which can lead to significant losses.
Besides, it is very essential that every bank form a risk management department other than just having risky models. The risk management departments should have experienced managers who understand the risks that the firms face and are ready to react and communicate the same to the top management for actions. In addition to that, communication is very vital in any organization because it enables easy flow of information therefore, ensuring that divergence from the normal operations is addressed as soon as it occur (Brigham and Joel 34). On the same note, the risk management process should take into consideration both the known and the unknown risks to prevent the chances of being caught unprepared when the unknown risks, to management, come striking.
Loan advancement forms the most important business for any financial institution leading banks to heavily depend on the loans for a larger part of their income, and this makes banks to go out of their way in many occasions to get new loan clients. But as it has been manifested even from the recent global crisis, loans pose the largest risk to financial institutions. It is therefore important for the banks to advance the assessment criteria they use whenever they want to issue loans to ensure that the customers are able to pay the loans back. On the same note, the secured loans should to a larger extent use an existing asset as security as opposed to speculative assets because of the speculated high income to be earned from the assets might not materialize (Madura 511). More importantly, the laid down procedures of risk management should be strictly followed because failure to do so increases the exposure to risk bearing in mind that there is no small risk, since small losses might be a sign of huge losses a head.
Another important step that will enable banks to avoid risks is the matching of the firm’s liabilities and assets. The financial position of the firm is very essential in ensuring that the firm is able to survive in case of a crisis. It is therefore paramount that the banks ensure that the right interest rate is charged and that the loan can be funded fully because unless this happens the bank will be making losses given that interest rates keep on changing. Additionally the risks that banks face are changing with time hence past information is sometimes rendered useless or ineffective (Brigham and Joel 75). Consequently, the banks should put in place efficient communication systems to ensure that the latest information is used in risk management therefore ensuring that new risks do not get the banks by surprise.
Risk management is a crucial aspect that must be implemented by all firms to prevent the possible losses associated with risks. Technological advancement has highly changed and increased the number of risks that firms face leading to the need to change the method of risks management continuously to include the new risks. On top of that, financial institutions operate in a highly dynamic market whose risks change sharply are quickly, which means that they should implement an effective and dynamic risk management system which should be updated from time to time.
Brigham, Eugene, and Joel Houston. Fundamentals of Financial Management. Stanford: Cengage Learning, 2012. Print.
Fennelly, Lawrence. A Handbook of Loss management and Crime Management. Amsterdam: Elsevier, 2012. Print.
Madura, Jeff. Financial Markets and Institutions. Stanford: Cengage Learning, 2010. Print.