The efficacy of any tool is defined by the people who
operate it. As an extension of this analogy, one may say that the efficacy of
risk management depends on the risk profile of the people who attempt risk
management. And that is what this article examines in the context of ALM in
banks.
As financial intermediaries banks are
known to accept deposits to lend money to entrepreneurs to make profit—of
course, all within the norms of the central bank. They essentially intermediate
between the opposing liquidity needs of depositors and borrowers. In the
process, they function with an embedded mismatch between highly liquid liabilities
on the one side and less-liquid and long-term assets on the other side of their
balance sheets. Over and above this balance sheet conflict, they also stand
exposed to a wide array of risks such as market risk, transformation risk,
credit risk, liquidity risk, forex risk, legal risk, operation risk,
reputational risk, etc. The ongoing process of “globalization” has only further
accentuated these risks.
Risk per se is not bad. Indeed, without risk there is
no return. So what is needed here is not avoiding risks, but taking risks
prudently and managing them with due diligence. Effective management of risk is
a must, particularly in organizations like banks which operate with highly
leveraged balance sheets. Otherwise, risks can rattle banks and even throw them
out of business in no time. Hence, the need for banks to adopt sophisticated
risk management systems. It is in this context that the concept of “ALM” has
entered Indian banks as a risk-management tool. This paper attempts to discuss: i) what ALM is ii) how it is implemented in banks; iii) the
role of HR in implementing these measures, and iv) the role of “leadership” in
successfully steering banks out of their risk zones.
What
is ALM?
It
is essentially the art of manipulating a bank’s balance sheet and income
statement to accomplish the desired goals. It enables banks to sustain their
required growth rate by systematically managing market risk, liquidity risk,
capital risk, etc. It inter alia involves the following, all with a
focus on profit and long-term stability of the bank:
• Adjusting a bank’s
liability in such a way that it can meet its liquidity and safety needs,besides being able to service the customer’s demands for loans.
• Directing,
controlling the flow of funds, its means, the cost thereof and the yield onconsolidated funds of banks.
• Managing maturity
profile of assets and liabilities in such a way that interest rate risk is kept
under check.
• Managing net
interest margin within the overall risk appetite of a bank.
All these measures are interlinked and hence call for deft
handling by the corporate leadership. Implementation of ALM can be broken down
into three phases—One, choosing an appropriate length of planning horizon of
say one, two or three months ahead depending upon the bank’s ability to collect
the necessary financial information from the profit centers; two, based on the
collected information working out estimates of return and risks under different
models and three, choosing a right model that results in a stable net interest
income consistently.
How
ALM is Implemented in Banks
The
implementation of asset-liability management is ensured through an exclusively
constituted asset-liability management committee, consisting of the top
functionaries in a bank as its members. The committee undertakes the
responsibility of identifying bank-wide risk and its quantification, drafting
risk management strategies, developing alternative scenarios, selecting a right
model after running Monte Carlo simulations and monitoring earning spreads and
initiating mid course correction, if any, to achieve the targeted profit. To
make ALM more effective big banks are known to constitute three subcommittees,
each assigned with specific responsibilities as under:
Credit Management Committee
This committee is
responsible for drafting a bank’s credit policies and exposure limits, pricing
strategies, estimating default risks and monitoring and managing credit
portfolio risk.
Investment Management Committee
This committee drafts
investment policies, ensures the desired mix of maturity and yield pattern of
investment portfolio and runs a bank’s investment portfolio.
Liability Management Committee
This committee is
responsible to satisfy liquidity demands of a bank, to evaluate the cost of
various money market instruments and their fit in a bank’s projected balance
sheet and to formulate management policy and review it periodically to stay
tuned with market happenings.
Ultimately, the asset-liability management committee has to undertake
the overall responsibility for directing acquisition and allocation of funds to
maximize earnings within the risk-bearing capacity of the institute.
ALM
and its Dependence on HR
No
tool, however efficient it may be, can function on its own. It needs people to
operate. More than that, it needs leadership to define mission, set goals and
design a process through which the tools can be operationalized to deliver
services and make profits. Banks need transparent leadership that nurtures the
best possible culture, where risk management almost becomes a way of life.
Effective implementation of ALM, thus, asks for a right mix of leadership,
loyal people to man various functions, right organizational culture and sound
knowledge of risk across the hierarchy. Let us now take a critical look at some
of these components:
Leadership
It
is often said that “the bottleneck is at the head of the bottle”. No
organization can be better than the cumulative value of its leader and those he
leads. Successful implementation of alm,
therefore, calls for
leaders who are equipped with a thorough knowledge of embedded risks in banking
and their impact on its profit making. The leadership must be capable of
anticipating the likely changes in the market and accordingly draw its
projected balance sheet vis-à-vis its strengths and motivate everyone to
work for its accomplishment.
Leadership should make its subtle reflection felt in the identification
and positioning of people with a right risk profile in terms of its knowledge
of risk, its risk perceptions—risk aversion/risk greed/enterprising—in the
asset-liability management committee and its subcommittees. Once assigned the
role, the leadership should exhibit its strength by granting allowances for
temporary failures of committee members. They should not indulge in knee-jerk
reactions at every wrong decision of the committee members, unsettling their
composition and demeanor. Such flare-ups at every mistake erodes the confidence
of committee members in entertaining any risk, which again is a bane for the
organization.
Experience elsewhere indicates that ALM suffers from two
basic pitfalls: One, the failure to adopt meaningful policies and two,
implementing the adopted policies. The leadership is expected to take care of
both the pitfalls. Leaders are, therefore, supposed to be strong in themselves,
besides choosing people with strength to perform as unit heads. It is only
people who are above the average that can become venturesome in their
businesses. They alone can dare to dream and achieve. It is only such courage
and entrepreneurial streak that enables leaders to try the untried, the
unpredictable and the unexpected, which incidentally is what ALM is all about.
Leadership should know who its experts are, no matter how difficult, and match
them rightly with the job to ensure effective ALM across the network.
However, it should be realized that looking for expertise
does not mean identifying the leading authority on a topic; it is only locating
that one person that best fits the demands of a given job from within or
outside. Unfortunately, many a time the staff themselves do not know what
“expertise” they possess. This is where a leader has to use his/her acumen to
unearth talent from his/her pool of resources and match it with the job. As a
first step in this direction, banks must map out the ALM process and its
knowledge needs so as to establish the “expertise” needed. From here, a bank
can look into its internal HR data on education, experiences, achievements of
its staff and based on it match the people to the job under question.
Leaders must keep their banks always ready to adapt to
emerging situation demands. They must determine the extent to which the change
is required vis-à-vis the ALM expectations. Here, a leader should strive
to make his/her followers believe in the overall purpose of the required
change. Merely asking the employees to do things differently will not do.
Leaders must become consistent role models, put their approach to the required
change into practice and reinforce it with appropriate systemic support.
People
Effective
implementation of ALM becomes simple if the people engaged in its pursuit—right
from chairman to the chaprasi; branch manager to corporate manager; ALCO
members to board of directors—can internalize a well-designed system of risk
identification, monitoring and its management for generating targeted profits.
In this context, leaders have a critical role in articulating the corporate
mission with the staff and making them own it as their personal goal.
To begin with, ALCO members must share their
perceptions/reservations/enthusiasm over the policies contemplated for
implementation, to better the decision-making process. Till a decision is
arrived at, every member has the right to discuss the issues threadbare. But
once a decision is taken they must all bury their differences and align
themselves with the chosen policy for its effective implementation. Such active
participation of operating staff in the decision-making process generates the
much needed team spirit for the implementation of ALM. In a dynamic and
competitive world, an open communication system across the hierarchy alone
paves the way for successful implementation of ALM objectives. A collegiate
atmosphere is essential, so that anybody in the organization can air their
ideas as well as their criticisms of the chosen models of ALM implementation.
Such role enlargement empowers employees, making them more responsible to their
own deeds, besides reducing dependence, subordination and submissiveness while
increasing their degree of self-actualization.
Leadership should encourage informal ways of interaction
among members, as it is known to provide an opportunity for individuals to
create their own informal world with its own culture and values, in which they
can find psychological center/firm anchor to maintain stability while
constantly adjusting themselves to changing ALM demands. It builds congruence
between the needs of the people and the expectations of the organization. Such
congruence among the staff is certain to generate team spirit, which is
imperative for implementing ALM successfully.
The literature on risk taking behavior of human beings in any
domain reveals that it is influenced by a combination of general factors such
as age, sex, etc., and several personality characteristics such as “sensation
seeking” and “value openness”. Research also indicates that a range of domain-specific
variables also influences people’s disposition towards risk. Some people are
known to be risk takers; some will be consistently risk averse, while a third
group of people are known to have domain-specific patterns of risk behavior. It
is said that most people take risks in order to reap some psychological or
material gain. Of course, people with high conscientiousness are known to
pursue these pleasures through disciplined striving. As against this, people
with low conscientiousness are often found aiming at becoming rich quickly by
taking chances rather than through controlled attempts. It is against these
ground realities that banks must attempt to sketch the personality profiles of
people who are to be assigned with the responsibilities of risk management on
the following lines:
1. physical status—the domains of health
and safety risk;
2. life style—social and recreational
risk; and
3. livelihood—career and finance risk.
Organizational
Culture
Organizational
culture is nothing but a shared system of meaning across its human resources. A
bank’s culture must encourage people to raise questions, however embarrassing
they may be and seek answers from who ever is capable of responding to them.
Questions of the following nature, if raised by the staff, augur well for the
implementation of ALM:
• Are we aware of the risks being taken?
• What form do they take?
• Are they clearly understood by the concerned?
• Is the maximum potential liability of each
exposure known to the undertaker?
• Are we taking business decisions on the basis
of reliable and timely information?
• Are we risk-conscious?
• Is the staff under the pressure of
management’s targets?
• Do the management and staff feel free to ask
questions on risk perceptions or admit that they do not understand?
• Are we proud of our bank culture?
• Does the culture permit learning from past
mistakes?
A bank’s culture that allows its staff to take decisions
without assessing the underlying risks is an unforgivable sin. Similarly, if it
permeates the fear of appearing foolish by admitting one does not know the
issue under consideration, it is the greatest obstacle for effective risk
management. It is too often observed in banks that staff are questioned after
the outcome has become evident, while remaining silent when such decisions were
taken. What is still worse is that no one blows the whistle when things are
going wrong. It is in this context that the leadership has to nurture a kind of
culture where every employee feels free to air his/her opinion freely and
frankly. Such a collegiate atmosphere affords ample scope for the staff to get
rightly educated. This will only become possible when the top management builds
credibility of its commitment to openness by “walking the talk”. Suffice it to
say that banks must build a vibrant culture where diversity of mindsets is
explored, tested and selected, so that they can navigate through the dynamic
market scenario with profits intact.
Conclusion
Over
the past 10 or years so, ALM has made strong inroads into the Indian banking
system. It is being used as a toll to maximize income through spread
management, liquidity management, capital management and gap management by
choosing optimal combination of asset mixes, fund combinations, price-volume
relation and interest rate variations. Its effectiveness is, however, defined
by the people who are involved in its operationalization. Ironically, the very
people who are engaged in managing balance sheet risks are themselves embedded
with risks. Hence, the leadership in banks must pay great attention to the risk
profile of the individuals to be assigned with ALM tasks. As competition
increases and spreads become thinner, the criticality of human resources in
implementing ALM becomes more and more pronounced.
grk.
Key words: Banks, Banking, Risk Management in Banks, Banking Risks, HRM in Banks
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