Published by sunandoroy on Tue, 2007-09-18 11:30
The practice of risk management is not new to India. As a matter of fact, around 150 AD, Kautilya in Arthashastra devoted a chapter on risk management termed Calamities of the Population. Observing that risks are of two types 1.Acts of God and ii. Acts of Men , he stated :
calamities due to acts of God are : fire, floods,diseases, epidemics and famines. Other calamities of divine origin are rats, wild animals, snakes and evil spirits. It is the duty of the King to protect people from all such calamities.
He adds, stressing the need for risk management,
All such calamities can be overcome by propitiating Gods and Brahmins. Therefore, experts in occult practices and holy ascetics shall be honoured and encouraged to stay in the country so that they can encounter calamities.
There is no doubt that the context and content of risk management has undergone rapid changes, but the need for appropriate risk management remains as relevant today as it was in ancient times.
Context of Risk Management in India
We are witnessing an economic revolution in emerging economies including India and China which historians of future will refer to as the wonder years of these economies. The Indian economy has indeed posted an impeccable performance in the past decade and a half. High GDP growth, rising industrial productivity, increase in per capita income , all these show that the growth process is opening up huge opportunities for its billion plus population. Remarkably, high growth is taking place in an environment of moderate inflation, low fiscal deficit and a strong balance of payments. Key strengths of the economy at this point are the self fulfilling momentum of economic growth, financial stability, huge investor interest in India, conducive policy environ and a skilled, educated workforce.
The fundamental aspect that makes India special is that growth is taking place in the midst of remarkable financial stability. Not only India escaped unscathed in the Asian crisis of 1997, it has continuously strengthened its financial architecture and risk management systems. Capital adequacy of banks are higher than 12 per cent, way above the mandated 9 per cent, the non-performing assets of the financial sector appreciably low. Wonder years, alas, do not last forever. Some danger is always present just round the corner and history is witness to the fact that due to lack of adequate precaution and foresight ; many nations have messed up golden opportunities and much like the Indian cricket team, successfully snatched defeat from the jaws of victory. Despite all the great news, the economy is not free from risks and lack of caution can at any point of time throw the economy out of gear.
Emerging Risks and Vulnerabilities
The precise role of risk management is to identify and manage all those risks that we encounter or may encounter throughout this journey through the golden era. The character of Indian economy and its markets are undergoing rapid transformation. Globalization, technological innovations and the advent of financial engineering is changing the way economic and financial impulses are transmitted across the globe. The immense opportunities the new world order offers is not without its lurking threats. Vision, therefore has to go hand in hand with caution and translating the vision into reality can only be done successfully once you are prepared to tackle the risks that invariably accompany the rewards.
The biggest risks to Indian economy originate at the macro level. In this fast growing scenario, distributional imbalances remain as agriculture lags behind the industrial and services sector. While India has been able to bring down poverty, the same cannot be said about income and wealth distribution. The poor human development ranking of India in a global setting is certainly one of its major risks and may affect the growth process. While one hopes that Government initiatives towards inclusive growth will lead to an improved income distribution, it is high time that corporate social responsibility is elevated to a new level by India’s shining companies. This is not philanthropy but in the interest of their own survival, because ultimately business is not conducted in isolation of the underlying social reality.
The second lurking threat is the source of Indias strength, the capital flows into the country. For the central bank, buying foreign exchange and sterilizing the market can be expensive while non involvement could threaten the balance of trade by making exports uncompetitive. Sudden reversals in capital flows can have a potentially disastrous impact on the economy. Sustaining investor interest and keeping the growth story intact, therefore, assumes great significance.
A third challenge arises in the services sector, the
engine
behind India’s growth story. The services sector is about to open up to the world as the WTO negotiation on services progresses. The services sector is about to open up to the world as the WTO negotiations on services progresses. In some sectors such as banking, India is globalizing faster than mandated by the WTO. The services sector will face competition from outside world, and it may not be easy to fight giants even on the home turf. Strategy, innovation and a keen eye on risks are the mantras for survival in tough times.
Finally, like a typical growing economy, the real estate sector is seen hectic activity and upward spirals in prices and the asset price bubble in the stock market calls for a close watch.
The Content of Risk Management in India today
Indian financial sector, dominated by Banks, is the forerunner in implementing robust risk management system following the guidelines of Basel II. The Basel Committee of Banking Supervision in the Bank for International Settlement is steering the global banking system towards improved risk management practices. Being far more robust than the simpler Basel I, Basel II is fast becoming the benchmark of risk management in banking world. India is also in the process of implementing Basel II and a host of regulatory changes are taking place. Asset liability management, which was dependent on gap analysis ( the gap of assets and liabilities in different maturity buckets) is giving way to modified duration based asset liability management. Risk management is gradually shifting from the trading book to the entire banking book. Exposures to sensitive sectors require more capital and provisioning. The models that estimate market forces are upgraded to increase their predictive power. Credit risk models are also undergoing transition. Apart from that mechanisms to counter concentration risk and liquidity risk are also being put in place. A detailed operational risk framework is currently being implemented by Banks. The challenge here is to strike the delicate balance between the reliance on qualitative judgments and the need for quantitative estimations. A risk-aware organization needs to balance the two, without losing critical values generated by both.
A gaze into the future
Risk Management as a source of trust
In such a milieu, institution of robust risk management practices in financial as well as non-financial world makes immense business sense. In a world composed primarily of postmodern imagery, risk management enhances images of companies, builds trust and attracts investors, even as it insulates organizations from internal and external threats. Indeed, companies of tomorrow will be differentiated by the risk management practices they adopt Risk management ceases to be mere regulatory compliance, it serves the interests of the enterprise. Risk management thus will emerge a necessity, not an imposed burden.
Elevated visibility of risk in organisations
Elevating the visibility of risks and introduction of a risk perspective in an organization will assume special significance. The Chief Risk officer, now an unknown quantity in many financial institutions will find his feet and shall even be dictating terms. The complexities of the marketplace will demand the best risk practices. The quality of risk management practices will be the ultimate insurance to sustain and prosper in a global environment.
Living with Volatility
The liberated financial markets are much more volatile than in the past, even in the presence of strong fundamentals. Volatility in asset prices are here to stay. Such volatility can erase profits of companies within a short span. Managing the market risks assumes great importance for the corporate world. The sudden strengthening of the rupee in the early part of 2007 took many Indian companies off guard and the costs of not having a good risk management system became apparent.
Correlated Risks
As markets get integrated , credit defaults quickly translates itself into liquidity risks and impacts the asset prices in the market, as the recent US sub-prime event teaches us once more. When risks get correlated, an integrated risk management system becomes the need of the hour. The basic underlying philosophy of risk standards like Basel II is to combat more effectively the plethora of interrelated risks that affect the economic and financial system.
Window of opportunity
Finally, the educated Indian is the biggest asset for the country. As globalization opens doors, Indians are making their presence felf throughout the globe. The remittances of Indian professionals, termed as invisibles in the Balance of Payment accounts provide strength to the current account. The workforce is far more diversified and earns much more in per capita terms as skilled professionals move out of India to work. With the advanced world ageing, there is a demographic dividend that awaits India along with other countries like China who have young skilled workforce. Anticipating the global corporate trends, the emerging requirement in skills, the Indian academic institutions can play a major role to prepare the young generation for a better tomorrow.
Risk management is a highly skilled profession with acute demand supply mismatches. As Indian primary and secondary education gives a strong mathematical grounding, Indian professionals can excel in the profession. However, since the State in its commanding heights absorbed much of the risks till economic liberalization beginning 1991, the Indian professionals lack exposure in complex markets. All this is changing fast and State initiatives in promoting risk management can lead to an India that is known as the hub of risk professionals.
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