R92723030 沈子喬 R92723037 陳禹君 R92723049 蔡少懷

1. Operational and Technology Risks Presented by R92723030 沈子喬 R92723037 陳禹君 R92723049 蔡少懷

2. I n d e x Part I The Introduction to Operational Risk Part II Operational Risk in BaselⅡ Part III Operational Risk Management In Practice

3. Introduction to Operational Risk Step 1: An idea of operational risk Step 2: Technology and Financial Service Step 3: The Effect of Technology on Revenues and Costs! Step 4: Technology in Payments System Step 5: Managing Operational Risk

4. Part I Introduction to Operational Risk Difficult to measure, yet crucial！

5. An idea of Operational Risk Major risks faced by banks! Source: The New Basel Capital Accord: Basel II, Jan 2001

6. direct and indirect An idea of Operational Risk What is Operational Risk ? Operational risk and inclusive of technological risk is the risk of loss resulting from inadequate or failed internal processes、 people、and systems or from external events. Definition by BIS,Working Paper on the Regulatory Treatment of Operational Risk, Sep, 2001 Some FIs add “Reputational risk and strategic risk as part of a broader definition (e.g., due to a failed merger).

7. An idea of Operational Risk What are the source of Operational Risk ? 1.Technology (e.g., technological failure and deteriorating systems) 2.Employees (e.g., human error and internal fraud) 3.Customer relationships (e.g., contractual disputes) 4.Capital assets (e.g., destruction by fire or other catastrophes) 5. External (e.g., external fraud)

8. Introduction to Operational Risk A summary of operational risks faced by FIs Employee Risk External Risk Employee turnover Key personnel risk Fraud risk Error Rogue trading Money laundering Confidentiality breach External fraud Taxation risk Legal risk War Collapse of markets Reputation risk Relationship risk Table 14-8 Technology Risk Programming error Model risk Mark-to-market error Management information IT systems outage Telecommunications failure Technology provider failure Contingency planning Customer Risk Capital Asset Risk Safety Security Operating Costs Fire / flood Contractual disagreement Dissatisfaction Default

9. An idea of Operational Risk How can operational failure affect an FI? Tearful Lessons!! The effects of operational failure! 楊瑞仁在國票案中吞占國票１０２.２億元 國 票 案 資深法務人員(劉偉杰)監守自盜３０億元 理 律 案 年僅28歲的高級期貨交易員Nick Lesson，以短短2年半的時間，搞 倒具有232年歷史的霸菱銀行，最後落得以1英鎊象徵性的價格， 被荷蘭國際銀行（ING）所收購。 霸 菱 案

10. Technology and Financial Service The most important factor affects the profitability and riskness of modern FIs. Technology The application of computers, audio and visual communication systems, and other information systems to an FI’s production of service. • 1.Lower costs by combining labor and capital in a more efficient mix. • Increased revenues by allowing a wider array of financial services to be produced or innovated and sold to customers.

11. Technology and Financial Service How modern technology affect an FI’s profit-producing area ? Wholesale Financial Services Technology improves FIs’ abilities to provide cash management or working capital services to corporate customers, who start to recognize that: • Excess cash balances result in a significant opportunity cost. • Corporate need to know cash or working capital position on • a real-time basis.

12. Technology and Financial Service 企業金融 Wholesale Financial Services The services provided to help corporate customer manage their financial position. • Controlled disbursement accounts. • Account reconciliation. • Wholesale lockbox. • Electronic lockbox • Funds concentration. • Electronic funds transfer • 7. Check deposit services • Electronic initiation of letters of credit. • Treasury management software. • Electronic data interchange • Facilitating business-to-business e-commerce • Electronic billing • Verifying identities • Assisting small business entries into e-commerce.

13. Technology and Financial Service 企業金融 Wholesale Financial Services In Taiwan, banks offer such service for corporate customers as follows: 一般企業金融產品 資本市場金融產品 企業電子金融產品 資金管理 風險管理 外匯業務 OBU國際金融業務 授信業務 信託業務 台幣資本市場金融產品 外幣資本市場金融產品 金融電子資料交換系統 (FEDI) 企業資金管理系統 企業貸款集中支付管理系統 整批轉帳系統 人事薪資管理系統 股利代發管理系統 各種轉帳代收業務

14. Technology and Financial Service 個人金融 Retail Financial Services A typical customer transaction through a branch or phone call costs a customer about $1, while a similar online transaction costs just $0.02! Researched by Merrill Lynch Some of the most important retail payment product innovations include: • Paying bills via telephone • Smart-cards (store-value cards) • On-line banking • E-mail billing • Automated teller machines (ATMs) • Point-of-sale (POS) • Home banking • Preauthorized debits/credits.

15. Technology and Financial Service By virtue of technology FIs no more made money only by interest spread earnings They are financial service provider now !

16. The Effect of Technology on Revenues and Costs! Interest income - Interest expense Other income- Noninterest expense Provision for loan losses Earnings or Profit before taxes Profit Function + - = Technology can improve FI’s profitability through means of: Increase Interest Income Lower Interest Expense Increase Other Income Decrease Noninterest Expense • Link to interbank lending market. • b) Originate and sell commercial paper, entering lower-cost funding market. Offering innovative products and better payment system Electronic processing and storage system Cross Selling (Data Mining)

17. The Effect of Technology on Revenues and Costs! Earnings and Other Data for All Insured Banks Update Table 14-1 Source: Federal Deposit Insurance Corporation website

18. The Effect of Technology on Revenues and Costs! Noninterest income of banks increase steadily. Underscoring the importance of operating costs is the fact that non-interest expenses gradually exceeds interest expense.

19. The Effect of Technology on Revenues and Costs! Make or Break? Profitability V.S. Technology! Product revenue side Operating cost side The effect of regulation and regulatory changes can not be ignored!

20. The Effect of Technology on Revenues and Costs! Technology on product revenue side 1.Cross-marketing both new and existing products to customers. 2.Increase the rate of innovation of new financial products. 3. Service quality and convenience.

21. The Effect of Technology on Revenues and Costs! Technology on Operating cost side In general, technology may favorably affect an FI’s cost structure by allowing it to exploit either economies of scale or economies of scope.

22. The Effect of Technology on Revenues and Costs! Economies of scale As the output of an FI increases, its average costs of production fall. ACi = Average costs of the ith FI TCi = Total costs of the ith FI Si = Size of the FI measured by assets, deposits, or loans. Cost-lowering effects of technology on FIs of all size but with the greatest benefit accruing to those of the largest size.

23. The Effect of Technology on Revenues and Costs! Economies of scale Yet FIs may face diseconomies of scale and other shape of AC function! Diseconomies of scale! As the output of an FI increase, its average costs of production increase. (e.g. Excess capacity, integration problems, cost overruns, cost control problems) S* is the most efficient size for an FI to invest.

24. The Effect of Technology on Revenues and Costs! Economies of scope The FI’s abilities to generate synergistic cost savings through joint use of inputs in producing multiple products. ACA+B [X1, X2] < ACA[X1,0] + ACB[0,X2] Nevertheless, diseconomies of scope may occur instead!

25. The Effect of Technology on Revenues and Costs! Testing for Economies of Scale and Economies of Scope FIs must specify both the inputs to their production process and the cost of those inputs The Production Approach C = f (y, w, r) w = Wage costs of labor r = Rental costs of capital y = Output of services The Intermediation Approach C = f (y, w, r, k) k = The cost of funds for the FI. The intermediary uses to produce intermediated service.

26. The Effect of Technology on Revenues and Costs! Can earnings always exceed expense? Investment on technology allows an FI to earn potentially higher profits, but not for sure because: NPV (Technology investment project) <０. The initial cash outlay and future costs related to these investments are unable to be offset. Io = Initial capital outlay for developing an innovation or product at time 0 Ri = Expected net revenues or cash flows from product sales in future years i, i = 1…..N d = FI’s discount rate reflecting its risk-adjusted cost of capital Agency Conflicts A growth-oriented investment may be in consistent with stockholder’s value-maximizing objectives.

27. The Effect of Technology on Revenues and Costs! Empirical Findings • Only a small part of the cost differences among FIs in any size class can be economies of scale or scope. • A majority of the studies shows the relatively low payoff from technological innovation. • Large FIs tend to be more efficient in revenue generation than smaller FIs and that such efficiencies may well offset scope and scale cost inefficiencies related to size. • Real benefits of technological innovation are difficult to measure through traditional studies.

28. Technology in Payments System American Practice The two dominant wire transfer systems are • Fed wire operated by Federal Reserve • Privately operated Clearing House Interbank Payments System (CHIPS) Table 14-5 In 2000 The average daily Fedwire funds value $1.5 trillion The average daily CHIPS value $1.2 trillion This trend can partly be attributed to the development of “sweep accounts”. Sweep accounts Customers can automatically switch funds from high-reserve requirement checking accounts into low-reserve requirement savings accounts

29. Technology in Payments System 6 major risks have arisen along with the growth of wire transfer systems. • Daylight Overdraft Risk • International Technology Transfer Risk • Crime and Fraud Risk • Regulatory Risk • Tax Avoidance • Competition Risk

30. Technology in Payments System 1. Daylight Overdraft Risk A possibly greatest potential sources of instability in the financial markets today! Daylight Overdraft When a bank’s reserve account at the Fed becomes negative within the banking day. Under Federal Reserve Act, the member bank’s end-of day reserve position cannot be negative.

31. Technology in Payments System 1. Daylight Overdraft Risk Large banks seek to borrow funds in the afternoon to cover for running daylight overdraft. Under regulation J, the Fed guarantees payment finality for every wire transfer message. Fedwire All within-day transfers are provisional, and become final only at the end of the day. CHIPS Settlement failure could result in disastrous systemic crisis.

32. Technology in Payments System 1. Daylight Overdraft Risk The efforts to alleviate daylight overdraft risk. • CHIPS members contributed to a special escrow fund. • 2. Implementing Regulation F: Banks, thrifts, and foreign banks must develop internal procedures of benchmarks to limit their settlement to other FIs.

33. Technology in Payments System 1. Daylight Overdraft Risk What happens in Taiwan… Negative Intervention (負數操作) 存款準備金的提存期間為一個月，銀行雖然每日計算當日超額準備的變化，但並 不需要每日提足至法定水準，只要至每月3日的最後期限，銀行提存的存款準備積數 總額，能補足應提的法定額度即可。 因此銀行於月初行性支出高峰時，市場資金水位下降，銀行實提準備低於應提準 備的水準，造成負數缺口，於短期利率上揚時，擴大準備部位負數缺口，將資金投 入票券等短期投資，待中旬資金寬鬆、短期利率走低之際，再從事正數操作，出脫 手中票券，以填補部位缺口。

34. Technology in Payments System 2. International Technology Transfer Risk The prohibition of the use of technological innovations limits FIs’ profitability. 3. Crime and Fraud Risk Wire transfers as methods of payment has resulted in new problems regarding theft, data snooping, and white-collar crime. (e.g. ATM card fraudulent duplication)

35. Technology in Payments System 4. Regulatory Risk The government regulation imposed in the adoption of some financial service limits FIs’ profitability. 5. Tax Avoidance Internal pricing mechanisms minimize firms’ tax burden, yet erode governments’ tax base. (e.g. BVI account) 6. Competition Risk Technology eposes existing FIs to the increased risk of erosion of their franchises as costs of entry fall and the competitive landscape changes. (e.g. 裕融企業,會計事務所介入保管業務)

36. Technology in Payments System Taiwanese Practice The role of FISC (Financial Information Service Co. LTD. ) 財金資訊公司前身為「金融資訊服務中心」（簡稱金資中心）。民國七十三年十月財政 部為促進金融業之資源共享、資訊互通、並提昇整體金融自動化層面，經報奉行政院核 定設立金資中心，負責全國金融機構跨行資訊網路之規劃、設計、建置工作。主要業務 為金融機構跨行資訊系統的規劃開發及跨行資訊網路的營運。 ‧ 金融機構跨行資訊系統之營運。 ‧ 金融機構間跨行業務之帳務清算。 ‧ 辦理與金融機構間業務相關之各類資訊傳輸、交換。 ‧ 金融機構間資訊系統災變備援之服務。 ‧ 金融機構間業務自動化之規劃、諮詢及顧問業務。 ‧ 其他經財政部指定或核准辦理之有關業務。

37. Technology in Payments System Taiwanese Practice The business lines: • 自動化機器共用系統 • 通匯系統 • 信用卡服務系統 • 金融XML業務 • FEDI服務系統 • 代繳代發系統 • 網際網路作業系統 • 資訊媒體儲存服務 • 行動銀行服務系統 • 資訊查詢系統 • 轉帳卡服務系統 • I C金融卡服務系統 • 資訊系統災變備援服務 What is FEDI ？ 金融電子資料交換（Financial Electronic Data Interchange，FEDI、金融EDI）係指企業或個人利 用電腦作業，以特定的標準格式（採用聯合國UN/EDIFACT所制定的標準訊息），經由專線撥接與 銀行直接連線，在安全無虞的環境下進行企業或個人的付款、轉帳等資金調撥作業。

38. Technology in Payments System Taiwanese Practice Who is in charge of its failure !! 10 / 20/ 2003 所有銀行的跨行轉帳全面“癱瘓” 通訊控制機故障 前員工及外包人員三人和偽卡集團勾結，外洩信 用卡持卡的人資料，遭這個信用卡偽卡集團盜刷 的金額，超過30億元 信用卡內碼資料外洩

39. Technology in Payments System Technological innovation serves to provide completely different financial services, yet it also exposes FIs’ to the risks of a distinct category. The Operational Risk The risk that FIs’ can ignore no more!

40. Managing Operational Risk The efforts to help FIs manage losses due to operational risk. Loss Prevention Training, development, and review of employees Planning, organization, back-up. (e.g., computer systems.) Loss Control External insurance. (e.g., catastrophe insurance) Loss Financing Loss Insulation FI capital. Figure 14-6 Operational Risk Management Effort RME: Extent of risk management efforts

41. Managing Operational Risk Regulatory Efforts to manage operational risk The issues brought.. 1. Customer Protection a. Does FI customers have the right to opt out of any private information sharing an FI may want to pursue? 依據法令規定，金控集團旗下子公司可以交叉分享包括姓名、生日、身份證字號與電話 地址的基本客戶資料。子公司如果想相互分享客戶金融交易細節，必須事前向客戶得到書 面同意。 但若消費者買的是結合銀行、證券、保險等功能的綜合性商品，就不得不向金控集團旗 下的各個子公司，透露攸關個人財富與金融交易的資訊。例如，中信金控的「萬股通」， 可連結往來券商進行自動跨券商轉帳作業，並提供最高50萬元新台幣的金融卡信用額度， 自動結合補差額功能。因此「萬股通」客戶的帳戶資料，將會同時透露給中信金控旗下的 銀行與券商。

42. Managing Operational Risk Regulatory Efforts to manage operational risk The issues brought.. 1. Customer Protection b. Do Internet transactions and electronic storage of private information expose FI customer to the security risk. 電腦處理個人資料保護法 　　但我國執法不力，以致造成花旗銀行資料外洩的情況，嚴重危 害金融交易的安全性。

43. Managing Operational Risk Regulatory Efforts to manage operational risk ２. Operational Fisk and FI Insolvency FIs have lost over $ 200 billion due to operational risk since 1980. Researched by Operational Research Inc. Operational risks “are sufficiently important for banks to devote resources to quantify the level of such risks and to incorporate them into their assessment of their overall capital adequacy.” Basel Committee on Banking Supervision in 1999 Basel Committee

44. I n d e x Part I The Introduction to Operational Risk Part II Operational Risk in BaselⅡ Part III Operational Risk Management In Practice

45. Operational Risk in BaselⅡ • Loss Data Collection • Structure of Basel Ⅱ for “OpRisk” • Pillar 1 : (MRC) Minimum Required Capital • Basic Indicator Approach (BIA) • Standardized Approach (SDA) • Advanced Measurement Approach (AMA) • Pillar 2 : Supervisory Review Process • Pillar 3 : Disclosure Operational Risk in BaselⅡ

46. Loss Data collection • Breaking loss data into “Business Lines” and “Event Types”. Operational Risk in BaselⅡ

47. Business line / event types classification • Agency services & Custody (代理業務) • 保管 • 代理 • 信託 • Sales & trading(財務交易與銷售) • 銷售 • 報價 • 部位持有 • 財務 • Retail banking(消費金融) • 消費銀行 • 私人銀行 • 卡片服務 • Corprate finance(企業財務規劃) • 公司理財 • 政府財務 • 商人銀行 • 諮詢服務 • Payment & settlement(收付清算) • 外部客戶服務 • Asset management(資產管理) • 全權委託資金管理 • 非全權委託資金管理 • Retail brokerage(消費經紀) • 零售經紀 • Commercial banking(商業金融) • 商業銀行 • e.g.貸款保證專案融資 Joint Combination • Including Municipal/Gov’t Finance and merchant banking. ** Mgt. = management • Resources: Basel Committee on Banking Supervision, “Working Paper on Regulatory Treatment of Operational Risk,” September 2001.www.bis.org

48. Business line / event types classification • Damage to Physical Assets (人員或資產損失) • 因天然災害或其他事件所導致之實質資產減損。 • Business Disruption & System Failures(執行運送及作業流程之管理) • 與交易對手或賣方交易之處理不當或過程管理疏失所導致之損失。 • e.g. 錯帳/不精確的外部報告/與同業交易處理不當/未經授權接觸資料 • Internal fraud(內部詐欺) • 至少有一名公司內部人員參與，意圖詐取、侵占公司財產、規避法令或公司內部規範所導致的損失。 • e.g. 匿報交易/挪用公款/盜取盜用資產 • External fraud(外部詐欺) • 外部人員意圖詐取、侵占公司財產、規避法令或公司內部規範所導致的損失。 • e.g. 偽造/駭客攻擊 • Clients, Products & Business Practices (客戶、產品、營運慣例) • 非故意或疏忽而對特定客戶未盡專業義務、或因產品特性及設計所導致之損失。 • e.g. 強制性行銷/產品瑕疵/未依規對客戶徵信 • Employment Practice & Workplace Safety (員工作業、工作場所安全) • 因違反雇用、健康或安全規定及協議、支付個人損害求償或差異性/歧視事件所導致的損失。 • e.g. 薪資/福利/所有歧視行為 • Business Disruption & System Failures(營運中斷與電腦當機) • 因營運中斷與電腦當機所導致之損失。 • e.g. 硬體/軟體/通訊/水電 Joint Combination • Including Municipal/Gov’t Finance and merchant banking. ** Mgt. = management • Resources: Basel Committee on Banking Supervision, “Working Paper on Regulatory Treatment of Operational Risk,” September 2001.www.bis.org

49. The 2001 New Basel Accord (including Operational Risk) Data Collection & Category Definition of Operational Risk Pillar 1. (MRC) Minimum Required Capital Pillar 2. Supervisory Pillar 3. Disclosure Standardized Approach (SDA) • Capital charge for operational risk: • -12% of MRC • -17-20% of Gross income Basic Indicator Approach (BIA) Advanced Measurement Approach (AMA) Structure of Basel Ⅱ for “OpRisk” Operational Risk in BaselⅡ

50. 2001 Basel Ⅱ, and Implement at 2006 Structure of Basel Ⅱ for“OpRisk” Operational Risk in BaselⅡ