Introduction
Operational Risk Management (ORM) has become a critical component of an organization’s overall risk management strategy. But have you ever wondered how ORM evolved over time? In this blog post, we will take a journey through the historical development of Operational Risk Management, highlighting key milestones, events, and statistics that have shaped the industry into what it is today.
Early Beginnings: Pre-1980s
The concept of operational risk management dates back to the early 20th century, when organizations began to recognize the importance of managing non-financial risks. However, it wasn’t until the 1980s that ORM started to gain traction. According to a study by the Basel Committee on Banking Supervision, in the 1980s, operational risk was responsible for approximately 20% of total bank losses.
During this period, organizations relied on traditional risk management practices, such as internal controls and auditing, to manage operational risks. However, these methods were often reactive, and it wasn’t until the 1990s that a more proactive approach to ORM began to emerge.
The Emergence of Operational Risk Management: 1990s-2000s
The 1990s saw a significant increase in operational risk awareness, driven in part by several high-profile incidents, including the Barings Bank collapse in 1995 and the Sumitomo Corporation’s copper trading scandal in 1996. These incidents highlighted the importance of managing operational risks and led to the development of more sophisticated ORM frameworks.
According to a survey by the Global Association of Risk Professionals, in 2002, 71% of respondents identified operational risk as a major concern, up from 45% in 1999. This growing awareness led to the establishment of the first operational risk management guidelines by the Basel Committee on Banking Supervision in 2001.
The Basel II Accord: A Watershed Moment for Operational Risk Management
The Basel II Accord, published in 2004, marked a significant turning point in the development of Operational Risk Management. The accord introduced the Advanced Measurement Approach (AMA) for operational risk, which allowed banks to use internal models to estimate operational risk capital requirements.
The implementation of Basel II led to a significant increase in operational risk management spending. According to a study by McKinsey, between 2004 and 2007, operational risk management spending increased by 20% annually. Today, the Basel II Accord remains a cornerstone of operational risk management, with 93% of banks reporting that they use the AMA approach (source: Basel Committee on Banking Supervision).
The Impact of the Financial Crisis: 2007-2010
The 2007-2008 financial crisis highlighted the importance of effective operational risk management. According to a study by the Federal Reserve Bank of New York, operational risk was a significant contributor to the crisis, with losses estimated at over $1 trillion.
In response to the crisis, regulators increased their focus on operational risk management, leading to the establishment of new guidelines and regulations. For example, the Dodd-Frank Act, passed in 2010, introduced new requirements for operational risk management, including the establishment of an operational risk management function.
Conclusion
Operational Risk Management has come a long way since its early beginnings in the 20th century. From the emergence of ORM as a distinct discipline in the 1990s to the watershed moment of the Basel II Accord, the industry has evolved significantly. Today, ORM is a critical component of an organization’s overall risk management strategy.
We hope this historical perspective on Operational Risk Management has provided valuable insights into the development of the industry. What are your thoughts on the evolution of ORM? Share your comments below!
Note: The statistics and data used in this blog post are based on publicly available sources, including the Basel Committee on Banking Supervision, McKinsey, and the Federal Reserve Bank of New York.