01 Dec 2008, Sponsored Q&A, Risk magazine
Risk: What do you think has been the most significant challenge in risk management in 2008?
Robert Park: The financial crisis of 2008 has led to the realisation that financial institutions had woefully underestimated liquidity risk and assumed that they would always be able to raise the funding required to satisfy contingent obligations. Many in the industry had not recognised that the supply of liabilities to a financial institution also depends on the default probability of the financial institution itself. Over the last 12 months, the industry has begun to focus on the processes and management as well as the models used to assess liquidity risk and other risks of a low-frequency, high-impact nature. With the publication of the revised Principles for Sound Liquidity Risk Management and Supervision in June 2008, the Basel Committee on Banking Supervision has shown that regulatory authorities have recognised the need to improve liquidity risk management practices. There is also an industry-wide recognition of the need for quantitative analysis tools and technology that can be used to bring liquidity into enterprise-wide risk frameworks. The challenge with liquidity risk is that, unlike credit and market risk that are well known and can be modelled using historical data, there is a shortage of suitable data for banks. The most challenging characteristic of liquidity risk is its lowfrequency, high-impact nature. This has implications.