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Literature Review On The Main Risks In Banking

There are some risks in banking system which is really effecting all the banking services. This part of paper will explain to you that what are the risk main risks in banking system? We need to analys what kind of main risk we have in banks and need to identify them before we start to do research. There are three main types of risk that a financial institution is subject to; market risk, credit risk, and operational risk. 

Market Risk

     Market risk represents the loss of potential investment or business transactions. A few key macro-events increase the risk of the portfolio in trading. In the last 10 years, stock markets have experienced two major crashes. This situation has led to the collapse of the most significant capital markets. In March 2010, the stock market suffered high rates of technology stocks led the market to break. Evidently, Eroğlu (2007) found the amount of reckless individuals and businesses were allowed to take uncertain due to collapsing in 2007-2008 in the leveraged loan market ( Prishtina, 2008). This situation led to the bankruptcy of hundreds of small firms in the economy. The interest rates has increased depending on the this situation. Also as a result of this, the value of money has decrased and the banks imploded. The another considerations are interest rate risk, currency risk, and commodity price risk in the market risk.

Credit Risk

Credit risk and market risk are closely related concepts. If customers cannot pay credit debts to the Bank's credit risk increases. This situation leads to the concept of market risk. According to, Ercan (2007) many forms of credit risk there, if the party fails to affect the risk of trade action against the party taking delivery of a security or derivative contract fails to pay as a settlement. Banks stil offer loans for other business in which the borrower does not repay the loan default risk faced. Conversely, the credit risks affects bond investors and credit rating and the bond prices move steadily lower.

Operational Risk

The risk of working identifies working people and process in an organization and the risk accounts for fraudulent activity by employess of such errors, even legal risks. Since the implementation of Basel II bank regulatory aside, the various operational risks for banks to protect against possible need to set international standards for capital reserves can be used to create the task. There are three common types of operational risks in order to calculate Basel II: basic indicator approach, the standard approach and advanced measurement approach is called for (Ercan, 2007). The Standard approach is very basic and straight forward, and they calculate capital requirements based on income. Basic indicators approach, based on annual income was planned by the division of labor. Advanced measurement approach is a technique using which is customized by warned of the risk measurement standard platform.


The article examines the relationship between short-term capital partition and portfolio risk adjustments. Short-term capital partition is showing that banks always arrange their capital against to market risks to save their benefits and market credibility. Portfolio risk adjustment is that banks need to make a plan to manage their portfolio as much as efficiently. Nechif (2009) notes that management of such adjustments has been depending on the degree of bank capitalization because short-term capital partitions and portfolio adjustments depend to bank’s assets. This study presents a summary meaning of the risk management in light of the Basel II Agreement. Therefore, in the first part it refers to how developed the credit risk management over time and which are current phenomena that generate these risks, continuing in the second part with a summary of the reasons for which one wishes management of such credit risks, following the third party to talk about the shippings of Basel II in terms of credit risk management (Dedu;2010). As a conclusion, credit risk is defined as the possible that a bank borrower or party to a financial contract will fail to meet its indebtedness in agreement with agreed terms. The aim of credit risk taking over is to maximise a bank's risk-adjusted rate of return by supporting credit risk denouncement within satisfactory parameters. Banks need to adjust the credit risk natural in the entire briefcase as well as the risk in special (individual) credits or negotiation. Bank should also look at the relationships between credit risk and other risks. The effective management of credit risk is a critical component of a comprehensive approach to risk management and essential to the long-term success of any banking organisation. The study will conduct to establish framework for measuring and managing credit risk for fifteen private Banks and to analyse the relationship of diversified portfolio of credit. Hence, Banks need to diversify their portfolio to achieve a better credit equilibrium and establish Risk Management Information System. Banks need to diversify it because there is an out of balance in economic events. There are always some risks which is really threatening to the economicial system and the banks. The study enables a Banking Industry to progress towards its goals and objectives in the most direct, and effective way (Emin, 2010). There is a research which is has been done on the financial stability implications of credit risk transfer markets. In order to do that, it reviews the history and the recent developments in Turkish banking system and describes the credit risk environment through using quantitative data. The credit risk environment of Turkey discussed in the paper suggests that a well functioning credit derivatives market will lay the foundation for a diversified financial system that will underpin healthy recovery (Hacihasanoğlu;2009).

In general, the study is trying to examine the cross-border bank mergers and acquisitions which has more risk instead of domestic bank mergers. This study also finds that these output spreads are significantly affected by the differences in investor-protection and deposit insurance environments between the transacting countries. Choi (2010) demonstrates support to risk management through validation of predictive scorecards for a large bank. The bank developed a model to assess account credit worthiness. According to the complexity of compliance and the need for a different risk measurement models to choose from. VAR (delta normal method, historical simulation method, and Monte Carlo simulation method), such as risk measurement models used for different types of risk, stress testing, risk of cash flow, Merton model, credit scoring models, portfolio credit risk, there are models, and so on. The most commonly used model is VAR. The model is validated and compared to credit bureau scores. Alternative methods of risk measurement are compared (Dong;2010).

The main purpose of this study especially to determine the risk faced by commercial banks in Turkey. Dinleyin

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The factor analysis shows that the liquidity ratio, interest rates, uncertainty in the domestic market, competition in international markets, commercial transactions, such as the risk of uncertainty and credibility reasons, banks are exposed to risk. The most signifiance effect is competition in the international markets because of the affecting of the domestic markets by the international markets. This is the indispensable result of the affecting because ot the complity with the global markets. Therefore, banks have to seriously consider these factors in formulating an effective risk management strategy to minimize any possibility of loss in income and to avoid bank failure (Voon-Choong;2010).

The paper finds that the risk weights exhibit a risk encouraging concave function of financial risk, and tend to favour risky assets over riskless assets. Risky assests can be affected by changes in credit stability, interest rates, estimate the price, and some opportunities, etc. Riskless assets are quite similar to risk-free assets. An individual can either choose a riskless asset which is to contribute or, take the short-term position which is to take a loan. Accordind to Liu (2009), the low interest rate is interchangeable in both situations. To know the forward return of an asset with absolute definiteness is estimable to the financier. The strategy short terms need an additional capital mortgage over time to cover any deficiencies. A higher rate of return will balance or, balance any deficiency in the future of the stock investment. It depends on the inflation risk but the risks are of a minimum (Liu;2009).

A bank which is acting as a central planner under aggregate full certainty that optimizes liquidity allocation by sharing risk between discrete number of depositors. The paper concludes that banking crises cause them to act jointly in the management of banks' risk-sharing (İbrahim; 2010). Firms collect funds from banks and bond markets. Banks give credit and sell fund to ensure the mobility of funds, secondary markets. Banks allows the mobility of the economy and minimize the long-term risks. Banking hierarchies application of this process is the result of market risks are divided into long periods. Liquidity in the market rate of interest determined by the people and it's always a phenomenon that can changeble (Plantin; 2008).

Banking risks management as a fundamental element of banking management aims at diminishing as much as possible. It states that using high liquidity collateral is one of the marketing strategy which reduces the possibility of credit risk. Information regarding the comprehensive procedure in which the banks would take to follow the internal ratings based approach is also discoursed (Konovalova;2009). We identify different sources of risk as important determinants of banks' corporate structures when expanding into new markets. Therefore, branch-based banks are preferred to participation-based bank when confiscation risk high relative to economic risk. Greater cross-country risk correlation and more accurate pricing of risk by financiers reduce the differences between the structures. In addition, a bank’s corporate structure affects its taking and affiliate size because the banks do not want to get risk when banks give credit to investors (Dell'Ariccia;2010).

The purpose of this paper is to suggest a systematic approach which mean that methodical approach repeatable and learnable through a step by step method for risk plans formulation based on risk-return optimized portfolios, which applies different methodologies of risk measurement in the context of actual controlling demands. The study examines that the way of management of crisis to manage the risk when the banking crisis happened. The research also identified poor corporate governance, ineligible risk management systems, noneffective development programmes, chronic liquidity challenges, foreign currency shortages and diversion from core business to speculative non-banking activities as other factors that caused the crisis (Njanike;2009).

The empirical findings suggest that scale inefficiency has greater influence than pure technical inefficiency in determining the Chinese banking sector's total technical efficiency. The study results show that the potential for economies of scale in the range of 22% to 30% when the risk factor excluded. Moreover, the inclusion of risk factor benefits in the commercial banks is less than joint-stock commercial banks because there are so many shareholder in the joint-stock commercial banks (Sufian; 2010). The article examines the methods of measuring traded instruments that are essential for the management of market risk. The position of the banking sector in the economy is related to the quality of savings-investment relationship (Tabǎrǎ;2009).

The article offers information on the recommendations submitted by the Committee on Capital Markets regulation (CCMR) related to the financial crisis in the U.S. in 2007 to 2009. It explains that systemic risk puts the other financial institutions at risk at the event of failure of one significant institutions due to their linkages to each other including interbank deposits and net settlement payment systems (Scott;2010). Stress-tests can increase the endurance of banks and financial system when faced with crises especially during economic growth periods, when they may accept higher risks more easily and with lower prices. The case study presented assessed the impact that the deterioration of the main macroeconomic indicators might have upon a bank's exposure to credit, liquidity, interest, operational and market risks, upon its capital requirements, provisions and the balance sheet (Negrilӑ;2010).

More bank competition erodes market power, decreases profit margins, and results in reduced franchise value that encourages bank risk taking under the ‘’traditional competition-fragility” view. All the banks have some specific features of their own countries. Banks are obliged to act according to patterns of behavior in the economy of the people because the economic power of the people that determine the flow of the economy and to stabilize the economical challenges. Market power in the loan market may result in higher bank risk as the higher interest rates charged to loan customers make it harder to repay loans under the alternative “competition-stability” view (Berger;2009). More competition among banks generally increases the prosperity of consumers. However, it may also contain a intimidation to financial stability, that is of vital consequence for the functioning of economies. This study exposes that many forms of competition do not imperil financial stability. For instance, strengthened competition among banks usually has little influence on financial stability. Moreover, in cases where competition does affect financial stability, the latter might best be protected by sound judicious regulation or good collective control. It examines how the current financial crisis changes bank executives' view of risk management. It cites several tasks in which risk and finance functions can work more collaboratively. According to Schlich;2009 the article discusses the state of risk management in the current market as well as banks' efforts to elevate the strategic importance of risk management.

This paper argues that this literature has a significant influence on regulators and central bankers. It reviews the empirical literature and concludes that the evidence is best described as "mixed." There is a large body of literature that concludes that when stand face to face with increased competition banks rationally prefer more risky portfolios (Nicolio;2005) becuse if they have the risk protfolios and if there is no crisis in the economy they can get more benefit but they have to provide a subsitue items which is replaced fort he risky insturements toward to risks. Although there are many definitions of systemic risk, most agree that it manifests itself by an initial shock that results in the failure of one or more banks and then spreads out to the entire system by a enlargement mechanism which can result in the failure of more banks in the system. The model allows us to perform stress tests along both the bank default probabilities and the interbank exposures and is used to assess the risk of the Mexican banking system (Jaramillo;2009). This study analyzes bank margins in the German secondary market for exchange-traded structured financial products, with particular emphasis on the influence of banks' credit risk. A structural model allowing for the incorporation of correlation effects between market and credit risk is applied to compare offered as evidence to support a claim and fair theoretical prices which is determined according to demand and supply. For discount certificates, as the most popular type of structured financial products in Germany, an empirical study is conducted (Baule;2008).

This study explores the effects of regulation and deregulation on strategic choice and performance in the U.S. banking industry. The results suggest that deregulation has direct effects on firms' strategic choices and both direct and indirect effects on risk and return (Reger;2006). In this article, a survey of the European banking sector focusing on the analysis of the integration of environmental risks into all phases of the credit risk management, rating, costing, pricing, monitoring and work-out, is presented. The results show that banks integrate environmental risks especially into the rating phase, but not in all phases of the credit management process, though this is recommendable because these risks influence all phases of the credit management process (Fenchel;2006).

The another purpose of this article is to explain the returns of American Depository Receipts (ADRs), comparing the results across emerging and developed markets. Firm-specific business risk and country-specific economic risk are only important to emerging markets' ADRs, while country-specific exchange-rate variables are more important to developed markets' ADRs because emerging markets, foreign exchange rate fluctuations affect the country more developed country markets. Emerged as a result of this situation to minimize the impact of ADR should be more effective in emerging markets (Alon;2009). Banks are required to report VaRs to bank regulators with their internal models. These models must comply with Basel's backtesting criteria. If a bank fails the VaR backtesting, higher capital requirements will be imposed. This paper adopts the backtesting criteria of the Basle Committee to compare the performance of a number of simple Value-at-Risk (VaR) models. These criteria provide a new standard on forecasting accuracy. Currently central banks in major money centres, under the auspices of the Basle Committee of the Bank of International settlement, adopt the VaR system to evaluate the market risk of their supervised banks (Wong;2002).

This article reinforces the message of the one immediately preceding by showing that small to medium-sized firms have even stronger (non-tax) motives for hedging risks than their large corporate counterparts (Moore;2005).

Every financial crisis leaves behind important lessons, while exposing the limitations of the policy framework for preventing a systemic crisis. The sub-prime crisis has seriously dented the credibility of every institution vested with the responsibility for promoting financial stability. The paper outlines the causes of the crisis, highlights the important policy issues that the global policy making community has to address, and discusses several suggestions for improving the global financial stability architecture (Pattanaik;2009). This paper analyses the influence of the stable, long-term emotional traits of CEOs on an actual business outcome: risk taking in banking system (Quevedo-Puente;2009).

The integration of environmental risks into the whole credit risk management process is important because only then is an adequate risk management guaranteed.  The results show that banks integrate environmental risks especially into the rating phase, but not in all phases of the credit management process, though this is recommendable because these risks influence all phases of the credit management process (Weber;2006). In a system characterized by uncertainty regarding the moment of withdrawal of deposits, access to interbank liquidity decreases the bank risk of failure and bank runs. The possibility, moreover, to invest excess liquidity in the interbank market at a positive interest rate increases expected bank profits. In this paper, we show that abandoning the Diamond and Dybvig hypothesis of a unique bank representing the entire banking system gives rise to the possibility of endogenizing the interbank exchanges (Brighi;2003).

This paper summarizes that the key issues the new regulatory framework have to consider and how they relate to one another. As the debate over the new financial regulation architecture has evolved, two different views seem to emerge. The first is banking crises as an imperious occurrence, so that regulation should provide a structure to struggle successfully with its impact. The current crisis has totally transfigured the world’s financial landscape. The lessons we have derived have also transformed our perception of banking risks, spreading of a crise from one individual bank to another bank and its implication for banking regulation (Freixas;2010). For well over a decade many observers had warned that the European Union was ill-prepared in case of a financial storm because its market integration far outpaced its policy integration. This situation was well known to policy-makers but it was hoped that financial crises would wait until policy integration occurred. This article find that Europe has done better than could have been expected on the basis of existing arrangements in a nutshell. The two federal institutions acted swiftly, the European Central Bank by providing ample liquidity and the European Commission by enforcing competition discipline flexibly (Sapir;2010).

Recent contributions to the theory of regulation have suggested the possibility of discriminatory regulation affecting risk and profits of firms subject to public intervention. This paper examines risk and wealth effects associated with Australian banking regulation. In some periods the economy through government intervention in the economy the central bank is aimed at organizing the imbalance. The government wants to determine the amount of money in the econonomy by Central Banks. An increasing share of the banking sector is controlled by foreign capital in the majority of transition countries. To analyse the effects of this trend on the performance of the banking sector in these countries, this study conducts a comparative analysis of the performance of foreign-owned and domestic-owned banks operating in the Czech Republic and Poland. This article shows that on average foreign-owned banks are more efficient than domestic-owned banks. We conclude, however, that this advantage does not result from differences in the scale of operations or the structure of activities (Weill;2003).

However, this paper analyses the relationship between capital, risk and efficiency for a large sample of European banks between 1992 and 2000. In contrast to the established US evidence we do not find a positive relationship between inefficiency and bank risk-taking. Inefficient European banks appear to hold more capital and take on less risk. There are no major differences in the relationships between capital, risk and efficiency for commercial and savings banks although there are for co-operative banks. In the case of co-operative banks we do find that capital levels are inversely related to risks and we find that inefficient banks hold lower levels of capital (Molyneux;2007).

On the other hand, this paper reviews the theoretical literature on bank capital regulation and analyzes some of the approaches to redesigning the 1988 Basel Accord on capital standards. The paper starts with a review of the literature on the design of the financial system and the existence of banks. The paper reviews the theoretical literature on bank capital regulation (Santos;2001). The current work extends and updates the previous survey by looking at other aspects of the financial institutions' yield sensitivity. The study starts with an extensive discussion of the origins of asset-liability management and the subsequent work to identify effective ways of measuring and managing interest rate risk.  The discussion implicates both regulatory and market-based approaches along with any issues surrounding their applicability. The literature is enriched by recognizing that constitutional and regulative shifts affect financial institutions in different ways such as Banking Regulatory Council’s decision depending on the size and nature of their activities (Staikouras;2006).

In this paper, provide a comprehensive comparative review of the literature on the Islamic financial system. Specifically, the paper discuss the basic features of the Islamic finance and banking. The paper also introduce Islamic financial instruments in order to compare them to existing Western financial instruments and discuss the legal problems that investors in these instruments may encounter. The paper gives a preliminary empirical assessment of the performance of Islamic banking and finance, and highlights the regulations, challenges and problems in the Islamic banking market (Hassan;2002). The article focused interviews with managers of foreign parent banks and their affiliates in Central Europe and the Baltic States to analyze the small-business lending and internal capital markets of multinational financial institutions.

A detailed review of the theory of financial intermediation is beyond the scope of this study. It is important to note, however, the theoratical foundation for the systemic high leverage in the banking industry (Porter;2003). The study notes that none of the banks which we modeled failed during the very stressful 2007-2008 period, consistent with our results. The results also show that a commonly used approach of aggregating all banks into one single bank, for purposes of undertaking a systemic banking system risk assessment, results in a misestimate of both the probability and the cost of systemic banking system failures (Souto;2009).

The article examines individual significance of the selected antecedents and also their comparative reliability in explaining the two exogenous variables. The technical basis of our empirical research is the innovative mobile banking solution that uses cellphones with a built-in smart chipset.  The analysis showed that three variables (relative benefits, propensity to trust and structural assurances) had a significant effect on initial trust in mobile banking (Lee;2007). Calculating the probabilities of joint failures by simulation and assuming that the matrix of bilateral interbank exposures is known, we represent systemic risk in the financial system by means of a graph and use discrete modelling techniques to characterize the dynamics of contagion and corresponding losses within the network. The paper propose a network model to analyse systemic risk in the banking system that, in contrast to other proposed models, seeks to obtain the probability distribution of losses for the financial system resulting from the shock/contagion process (Jaramillo;2009).

Consequently, this paper explains the nature of settlement risk in interbank payments as well as foreign exchange, securities and derivatives markets; describes recent regulatory initiatives in these areas; and assesses the financial market's approach to handling settlement risks. The conclusion is that the market has been most effective in controlling settlement exposures in those areas where systemic risk – and therefore central bank involvement – is least evident (Dale;2002). Expected repayments in a simple system are always higher and its default risk may be lower. As an economy with a sophisticated banking system invests its funds more efficiently, there is a trade-off between efficiency and stability of a banking system because if there is a efficiency banking system it will bring a stability banking operations. However there will not be any issues in banking system (Gersbach;2010).

The empirical results indicate that the relationship between liberalization and banking crises depends strongly on the strength of capital regulation and supervision. With very weak regulation and supervision, the probability of banking crises is increasing with liberalization but this relationship is reversed as regulation and supervision become stricter. The most important type of liberalization in relation to banking crises seems to be behavioral. A policy implication is that positive growth effects of liberalization can be achieved without increasing the risk of a banking crisis if appropriate institutions are developed refer to financial institutions such as banks (Wihlborg;2010).

This paper empirically investigates whether cross-border bank M&As increase or decrease the risk of acquiring banks as captured by changes in acquirers' yield spreads. This paper also investigates how differences in the institutional environments between bidder and target countries affect changes in yield spreads following M&A announcements. The study finds that bondholders, in general, perceive cross-border bank M&As as risk-increasing activities, unlike domestic bank mergers. Specifically, on average, yield spreads increase by 4.13 basis points following the announcement of cross-border M&As (Choi;2010). Main results state that more insistent capital adequacy requirements lead banks to set stricter acceptance criteria, and that increased competition in the banking industry leads to riskier bank behaviour. It is shown that risk-adjusted regulation is effective. In an extension of our basic model, we show that it may be beneficial for a bank to hold more equity than prescribed by the regulator, even though issuing equity is more expensive than attracting deposits (Tieman;2004). Financial stability in Europe has received renewed attention with the advent of European Money Union. This paper examines whether European Union country banking systems are particularly vulnerable to systemic risk. This paper estimate multivariate probit models linking the likelihood of banking problems to a set of macroeconomic variables and institutional characteristics such as aspects of bank supervision and regulation, restrictions on bank portfolios, and development of the banking system (Hutchison;2002).

The improvement of banks' operational risk management frameworks concerns new requirements addressed in the Basel II Framework, a new capital adequacy regulation proposed by the Basel Committee on Banking Supervision (BCBS). Basel II will apply to internationally active banks and to all banks and investment firms in the EU via transposition of a new directive into national regulations which is stated by the Banking Supervision. This study explores the effects of regulation and deregulation on strategic choice and performance in the U.S. banking industry. Drawing on literature from strategic management, industrial organization economics, and organization theory, we develop a framework which suggests that regulatory scope and regulatory incrementalism influence strategic choice and performance (Reger;2006).

Branch-based structures are preferred to subsidiary-based structures when expropriation risk is high relative to economic risk, and vice versa. Greater cross-country risk correlation and more accurate pricing of risk by investors reduce the differences between the two structures. The article identify different sources of risk as important determinants of banks' corporate structures when expanding into new markets. Subsidiary-based corporate structures benefit from greater protection against economic risk because of affiliate-level limited liability, but are more exposed to the risk of capital expropriation than are branches (Marquez;2010).

This study investigates the main problems, challenges, and opportunities facing Islamic banking in the United Kingdom. The study reports the results of interviews that were undertaken with senior officials of several key financial institutions who have had many years of experience in dealing with Islamic banking. The study concludes by identifying opportunities such as e-banking that may have a significant impact on the future of Islamic banking in the UK (Shahin;2004).

Bank size is significantly related to credit risk; the proportion of loan sales to total liabilities and bank size are significant determinants of interest-rate risk; and off-balance-sheet financing, the extent of securitization, loan volatility, bank capital, and bank size are statistically significantly related to liquidity risk. The study examine whether Islamic financing can explain three important bank risks in a country with a dual banking system: credit risk, interest-rate risk, and liquidity risk. Using Malaysian data, study find that commercial banks with Islamic financing have significantly lower credit and liquidity risks but significantly higher interest-rate risk than banks without Islamic financing (Verhoeven;2004).

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