burden. these and a few other factors have led the basel committee to recommend a separate capital for operational risk. 3. definition of operational risk has evolved rapidly over the past few years. first, it was commonly defined as every type of unquantifiable risk faced by a bank, which has been refined considerably to include modern day risks. according to the basel committee on banking supervision, operational risk is the “ risk of loss resulting from inadequate or failed internal processes, people and systems or from external events ”. this definition is based on the underlying causes of operational risk at the broadest level and includes legal risk, but it excludes strategic and reputational risks. the basel committee has also asserted, “ the most important types of operational risk involve breakdowns in internal controls and corporate governance. ” that ’ s why basel ii aligns with a variety of other regulations and supporting frameworks for enhancing corporate governance.'management of operational risk is thus taken to mean the'identification, assessment and / or measurement, monitoring and control of mitigation of this risk. while many of these risks are inherent and visible in day to day operations of banks, some components are applicable to supervisors and regulators. 4. the banking industry ’ s awareness of operational risk and efforts to manage it have accelerated in recent years, driven in part by an increasing desire to improve operating efficiency, reduce earnings volatility, rationalize the allocation of capital between competing businesses. it is not easy to get banks to identify and assess the operational risk inherent in all material products, activities, processes and systems and in particular to follow such practices when new products are introduced. to encourage banks to focus attention on assessment of operational risk on products and processes, regulators should be aware of new products, improvements in management information systems and computing technology that have opened the way for improved operational risk measurement and management. in the next few years, financial institutions and their regulators will continue to develop various approaches for operational risk management and capital budgeting techniques. 5. let me focus on some key areas of operational risks and regulatory responsibility in the interest of financial system stability. 6. sound management of operational risk is particularly important in payment, clearing, and settlement systems as such risks can spread across systemically. all owners and operators of payments, clearing and settlement systems face operational risks but the degree may vary from system to system and from country to country. operational problems in a payment, clearing, and settlement system may impede the control of, or even ex

##acerbate, other types of risk such as market, liquidity, or credit risk in an unanticipated way that could pose a systemic risk, resulting in participants incurring significant losses. it may not stop there. payment and settlement related operational risks could filter into businesses of banks ’ clients, governments and the country ’ s international correspondents as well. this aspect of banking operations was ignored for many years and it is fairly recently that regulators and banks started addressing payment and settlement related operational risks. today ’ s consensus is that payments, clearing, and settlement systems must be safe, reliable, efficient, and secure, which are critical to financial system stability. that ’ s why most regulators, the central banks in particular, have become owners and operators of clearing and settlement systems. although the tendency is to outsource this function, many regulators at some stage or other have owned or operated these systems. 7. another technology related risk is the desire of banks to acquire the leading edge with propriety systems, stand alone systems and specific it systems. banks tend to hang onto this short - lived approach. individual systems are costly not only to banks themselves, but also to customers. the norms should be not attracting customers, but reducing their operational risks and reduction of transaction costs to customers. both are often forgotten or ignored by banks and continuous reminding has become a regulatory responsibility. despite moral suasion banks in many countries have not realized the gains of having common atm platforms, back - up sites, disaster recovery sites and sharing of costs. 8. it may also be necessary to for banks to recognize that different risks matter in different lines of businesses. a comparison of business unit economic capital requirement by risk type indicates that operational risk is highest in fund management, private banking, and in retail banking when compared to corporate banking, insurance business ( if banks are allowed to engage in ). the new operational risk element is expected to hit banks specializing in areas - such as custodian arrangements and asset management. the regulators should be mindful of high operational risks in these businesses and bring them to the attention of banks. 9. uncertainties, regulatory challenges in promoting banks in a lighter vein, operational risks can be categorized into two, i. e. man - made risks ( mistakes, faulty models, frauds, terrorism, wars etc., ) and god - made risks ( earthquakes, floods, tsunami disasters, electrical blackouts, telecom interruptions etc. ) some of these are well known