Basel III operational risk management requirements : a comparative study of selected local banks

Abstract

Every business in the world is faced with operational risks. This type of risk is so vast and pervasive that it was a main contributor to the financial crisis of 2008. Therefore, operational risk management plays an integral role within any risk management department. Basel III aims at defining and regulating the management of operational risk to give the banking sector the best chance at being able to mitigate operational risks. However, the framework set out in Basel III is not free of shortcomings. Such shortcomings include an overarching definition of operational risk, inadequate capital requirement calculations, as well as the framework being too complicated or unclear. The purpose of this study is to analyse the operational risks faced by local credit institutions as well as how they mitigate these risks, and to pinpoint any shortcomings that the local credit institutions have in relation to carrying out effective operational risk management according to the Basel III framework. Furthermore, this study will analyse, through peer group analysis, any areas of the Basel III framework that local credit institutions are having difficulty with. The results of this study show that local credit institutions are aware of the importance of operational risk and its mitigation, management, and measurement. It was also found that Basel III tends to be over-complicated or difficult to understand particularly for the smaller institutions. Credit institutions expressed their concern with the capital requirement calculation, in particular the Basic Indicator Approach. This calculation was not deemed sufficient by the banks. It was also noted that the rapid rate of changing regulations results in regulatory risk which was said to be the greatest risk that current banks in Malta are facing.