Heng Swee Keat: Advances in risk management - theory and practice
Opening address by Mr Heng Swee Keat, Managing Director of the Monetary Authority of
Singapore, at the Symposium to mark the opening of RMI's new facilities, Singapore,
2 October 2009.
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Prof Tan Chorh Chuan
Prof Tan Eng Chye
Prof Duan Jin-Chuan
Distinguished speakers, guests, ladies and gentlemen
Good morning
Introduction
It gives me great pleasure to join you today at the symposium which marks the opening of
Risk Management Institute's (RMI) new facilities.
RMI is Singapore's first full-fledged research centre dedicated to risk management. RMI was
set up three years ago. The timing could not have been more appropriate. Given the spotlight
in the current financial crisis on risk management, the shift of economic weight to Asia, and
NUS' standing as a global university in the heart of Asia, RMI has a major opportunity to play
a prominent role in research and education on this critical topic.
Emerging from the current crisis
In recent weeks, confidence has returned to financial markets. More recent forecasts for
global economic growth have been revised upwards, including that for Asia.
There is palpable relief that the global economy has avoided the abyss. But some players
seem to have forgotten that we have just gone through the worst financial crisis since the
post-war period. The clean-up of the wreckages will take time. For example, the International
Monetary Fund (IMF) recently revised its estimate of the write-downs on expected losses by
financial institutions on bad assets to $3.4 trillion.1 The scale of these losses remains
significant. Further, several weakness in the global economy continue to present risks to the
sustainability of the recovery. These include the continued deleveraging by banks and
households, rising unemployment, weak fiscal positions in certain economies, and a reduced
buffer for further decisive intervention.
In addition, with the revival in investor confidence and generally conducive global liquidity
conditions, authorities have been keeping a close watch on the asset markets. In Singapore,
MAS recently decided to disallow the Interest Absorption Scheme and Interest-Only Housing
Loans for private residential property lending. We will closely monitor developments in the
property market and the broader economy. Our upcoming Monetary Policy review in October
will continue to focus on MAS' objective of maintaining overall price stability for the
mediumterm.
In this climate of relief and confidence, it is also easy to lose the sense of urgency to address
lessons that can be learnt from the crisis. Much remains to be done, especially in
strengthening risk management. Each of us, as regulators, as industry participants, as
research institutes, academics and researchers, has an important part to play.
Role of regulators
First, there is need for global regulatory reforms. MAS is involved in discussions at the
Financial Stability Board, the Basel Committee on Banking Supervision and other fora to
consider proposals to strengthen the regulatory framework. Let me highlight two key areas of
focus: regulatory capital framework and liquidity risk management standards.
The crisis occurred on the back of aggressive risk taking and leveraging. Risks had been
under-estimated and in many cases, financial institutions were over-reliant on external credit
ratings and on quantitative models. Risks were built up both on and off the balance sheets of
banks. When these started to materialise, the de-leveraging effects and the steep fall in
asset prices resulted in liquidity seizures in asset and funding markets. This caused major
losses and writedowns of bank capital. In many cases, costly government intervention was
needed to keep the financial institutions from failing.
To improve the resilience of banks, global regulators have agreed to raise the levels and
quality of bank capital. Additional capital for trading book and for securitisation risks will be
needed. There are on-going discussions on establishing a framework for countercyclical
capital buffers and raising the quality, consistency and transparency of the Tier 1 Capital
base. Other supplementary tools to contain the riskiness of banks, such as a leverage ratio
are also being developed.
To address liquidity concerns, regulators are considering the introduction of a minimum
global liquidity standard that includes a stressed liquidity coverage requirement underpinned
by a longer term structural liquidity ratio.
MAS is involved in the discussions on both the capital and liquidity proposals and supports
the broad thrust of these initiatives. As MAS' regulatory framework has generally been
regarded as conservative, we are in a good position to comfortably adopt these more
stringent standards.
However, we are aware that more regulation on its own is not a panacea. It would be
undesirable for the regulatory pendulum to swing towards extreme conservatism and for
over-prescriptive rules to severely restrict financial innovation. MAS will adopt a balanced
approach and will work closely with and consult all stakeholders in implementing the new
regulatory standards.
Role of industry participants
Supervision has to work in concert with effective risk governance in the financial institutions.
The Boards and senior management of financial institutions must take ownership and
responsibility to manage risks. A report issued by the Senior Supervisors Group2 in March
2008, on observations on risk management practices highlighted many risk management
practices that improved the resilience of financial institutions during a crisis. Let me highlight
three areas.
First, effective capital planning. Banks need to conduct a thorough and comprehensive
assessment of their levels of capital. These have to be "forward-looking", taking into account
the nature and level of the bank's risk, not only under "normal" business conditions, but also
under conditions of stress. The level of capital has an important "signalling" effect in a crisis.
Hence, banks need to develop funding strategies and contingency plans, ahead of crisis, to
ensure there is adequate capital to maintain market confidence.
A second related area is stress testing. Globally, the financial industry has acknowledged
that stress testing practices were insufficiently comprehensive or rigorous. Robust stress
testing helps the financial institution to identify the impact of adverse events and shocks,
outside of the normal environment. However, let me caution that the techniques for
integrated firm-wide stress testing remain in the early stages of development and need to be
further refined. Tipping points, correlations between risks, feedback loops, behaviours and
interactions of market participants are difficult to anticipate and quantify. New approaches to
stress tests are being considered, such as reverse stress testing, which requires a financial
institution to identify scenarios of which the impact could threaten its survival. If done well,
such an approach can help question assumptions, and uncover hidden risks and
interlinkages between risk factors.
Capital planning and stress testing rely heavily on quantitative techniques to measure risks.
The crisis shows the limitations of Value-at-Risk (VAR) models and other quantitative
techniques. Going forward, financial practitioners will have to be more critical of the
assumptions behind the models, and be more prepared to apply sound judgment and reality
checks. MAS will, as part of its supervisory review process, continue to engage the banks on
their capital planning processes, and to evaluate whether the framework is sufficiently robust
and comprehensive.
The third area that financial institutions need to do is to establish firm-wide risk management
and foster an appropriate risk management culture. In this crisis, several institutions that
failed were managing risks within "silos", by organisational structure or by risk types. In terms
of culture, the focus on expanding earnings needs to be matched with an equal focus on risk
and control. Senior management and staff at the business lines need to comprehend, and be
accountable, for the risks which emanate from their activities. Risk managers have to be
empowered to call a stop to the dance even while the music is still playing. It is in this context
that the recent Financial Stability Board principles on compensation have been formulated, to
align compensation to prudent risk taking.
So far, I have highlighted some of the challenges facing regulators and industry participants.
Academics, researchers and institutes such as RMI, play important roles in supporting the
financial industry in its journey to improve risk management practices. Let me now touch on
the role that RMI can play.
RMI's role in the aftermath of the crisis
As a knowledge centre in financial risk management, RMI acts as the link between theory
and application, bringing together researchers, risk managers and regulators to share
experiences and views on risk management. I believe RMI can do more to facilitate this. Let
me suggest three broad areas.
First, as researchers are removed from the fray of day-to-day action, you can step back and
ask fundamental questions about risk management practices, identify gaps, and facilitate
innovation in risk management techniques. I am pleased to learn about your credit rating
project, which aims to provide rigour and transparency to the financial assessment of
regional corporates. The value of such work is that it is grounded on sound empirical and
theoretical work, with a clear focus on solving practical, impactful problems. In the same vein,
RMI's regular workshops and lecture series serve as useful platforms to present findings to
the industry, and to encourage two-way discussions. MAS fully supports RMI's initiatives to
deepen its collaboration with the industry.
Second, as a repository of knowledge on risk management, RMI plays an important role in
education. RMI has been appointed as the lead provider on risk management under the
Financial Industry Competency Standards (FICS). You have launched 50 accredited
programmes across seven Risk Management job families over the past year. To support the
role of Boards and senior management in risk management, I hope that RMI would consider
appropriate executive programmes for Board members and senior management of financial
institutions. I believe RMI can make an impact in enhancing the knowledge and capability of
practitioners.
Finally, I hope RMI can provide a focal point to bring in global thought leaders and
practitioners on risk management, through your flagship RMI Annual Conference. This
conference has been a success. This conference will also allow RMI to showcase its
contribution. This year's Annual Conference attracted over 300 local and regional
participants, registering an increase in the industry's participation over the previous year. I
am optimistic that you can grow this conference into a premier event on risk management in
the region and globally.
Conclusion
RMI's growth would not be possible without strong support from the university. I appreciate
the efforts of Prof Tan Chorh Chuan and Prof Tan Eng Chye in championing the growth of
RMI. RMI's new facilities is a visible commitment of this support. Equally, if not more
important, is your support for cross-disciplinary research. Just as we remind financial
institutions not to manage risks in silos, research efforts are more productive through
interdisciplinary collaboration. By encouraging faculty members from different parts of the
universities to work together, and with industry professionals, you do much to advance RMI's
leadership in financial risk management.
I congratulate RMI on the opening of its new facilities and wish Prof Duan and your
colleagues every success. I wish you a fruitful symposium. Thank you.