Operational risk survey shows risks higher at large banks

Operational risk losses are disproportionately high at large banks, new survey finds

The continued dramatic growth of Chinese bank balance sheets may be worrying regulators and lenders, but there's no reason to suppose their growth will outstrip their ability to manage operational risk, suggests this year's Operational Risk & Regulation top 100 banks survey.

Research by Operational Risk & Regulation found a significant relationship between a bank's size and its tendency to suffer operational risk losses. Of course, larger banks would be expected to suffer more losses in absolute terms – but losses increase exponentially as banks increase in size. At over $1 trillion in assets, banks in the top 100 average $689.40 in operational losses per million of assets. Under $1 trillion, the figure drops to just $70.38.

However, there's no evidence that rapid growth, rather than simply large size, has a tendency to increase losses – in other words, that operational risk managers at a rapidly growing bank might find the job running away from them. Once the effects of larger size are taken into account, there is no significant correlation between growth and operational risk losses: a large bank, from an operational risk loss point of view, is a large bank regardless of whether it was large last year.

This will be reassuring news – in particular, in China. The major Chinese banks – 13 of which appear in the top 100 – have seen rapid balance sheet expansion in 2011 and the first half of 2012, which has worried analysts. On average, their assets grew 25.1% in 2011, the OpRisk survey found.

Credit rating agency Fitch wrote earlier this month: "Such aggressive expansion at a time of weak global and domestic economic fundamentals has the potential to lead to large loan repayment problems, and could ultimately undermine sovereignty." Analysts are also worried about the accuracy of reported non-performing loan levels – these remain relatively low at Chinese institutions, but the official numbers could underestimate the size and overestimate the quality of local government debt and exposure to the slowing Chinese property market, analysts speculate.

And the relative strength of the major Chinese banks, measured as the ratio of Tier I capital to assets, did not improve over the course of the year – capital roughly kept pace with assets. Plans by the China Banking Regulatory Commission to bring in higher capital requirements were delayed earlier this year and will now come into force only in 2013, a move the Chinese government said was necessary in order to maintain the supply of credit to small businesses and support slackening economic growth. Banks now have until 2019 rather than 2016 to meet new capital adequacy ratio standards.

The full results of the survey will appear in the October issue of Operational Risk & Regulation.