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Transforming risk efficiency and effectiveness

Posted by on 26 November 2019
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Since the financial crisis of 2008–09, financial institutions have significantly expanded their risk and compliance functions. And with increased headcount came increased complexity. Many institutions grew rapidly and piecemeal, often scrambling to respond to regulatory feedback or indirect pressures. Most banks today are consequently looking to improve productivity. Risk management, however, has often been off-limits for cost reductions. Actions to reduce cost required cutting through the complexity and therefore were viewed as hazardous, given the nature of risk and the expectations of regulators. Faulty moves to make risk management more efficient can in fact cost an institution significantly more than they save.

In our experience working with leading banks, the most potent levers for increasing risk-management effectiveness, if applied in careful sequence, also improve efficiency. A well-executed, end-to-end risk-function transformation can decrease costs by up to 20 percent while improving effectiveness, transparency, accountability, and employee and customer experience.

A sequential journey

Banks looking to transform risk management can focus on four mutually reinforcing areas: organization, governance, processes, and digitisation and advanced analytics. While enhancements isolated in each area can boost both effectiveness and efficiency, the true potential comes from tackling them in sequential order. Organisational optimisation facilitates governance rationalisation, which facilitates effective streamlining of processes, which enables digitisation and advanced analytics to yield maximal benefit.

  • By optimising the organisation, institutions can gain effectiveness, clarifying responsibilities, increasing accountability, and matching talent to jobs. Changes achieved by optimising the organisation promote efficiency by reducing redundancy in activities across the first and second lines of defense. Perhaps most important, organisational improvements lay a necessary foundation for rationalising governance, streamlining processes, and digitisation. For example, banks can begin an efficiency transformation by making sure that responsibilities for risk assessment, quality control and testing are well-defined and that talent requirements for each role are clearly articulated.
  • By rationalising governance, banks can focus attention on what matters most and remove pain points for the business. Eliminating unneeded activities frees up a scarce and precious resource—management bandwidth—while yielding some direct efficiency benefits. Most critically, rationalised governance sets the foundation for streamlining processes as well as for digitisation. For example, some institutions have reduced as many as 30 percent of their policies while improving the quality of the remainder and clarifying the constraints that updated processes must meet.
  • By streamlining and strengthening processes, institutions can take dramatic steps on the efficiency–effectiveness curve while creating better employee and customer experiences. Streamlined processes are also easier to digitise, either in targeted ways or in full. For example, banks that have mapped their credit-underwriting and adjudication process have discovered efficiency-improvement opportunities leading to freeing up underwriter capacity by more than 20 percent and credit-officer capacity by more than 10 percent. Some institutions have used such process simplification as a first step toward digitisation.
  • Finally, digitisation and advanced analytics augment and magnify the effect of process redesign, allowing for full impact to both risk-management effectiveness and efficiency. Appropriately automated processes are less error prone and less costly. Perhaps even more important, digitisation permits institutions to embed automated real-time (or near-real-time) risk controls within core processes. This reduces control failures and makes far more efficient use of resources. These changes rely on effective data management, which also directly boosts efficiency by eliminating time wasted on data consolidation and reconciliation. For example, many banks are automating retail and SME credit processes, automating decisioning and embedding real-time KYC controls into onboarding.

Secrets of transformative success

End-to-end risk transformations can reduce the cost base while meaningfully improving the quality of risk management. Four initial steps are essential to success.

  1. Define the scope of transformation. Banks seeking to improve productivity face a choice between a risk-focused transformation or a broader enterprise-wide transformation which includes the risk function. Given the enterprise-wide nature of risk management, this broader approach tends to create greater value, both throughout the enterprise and within the risk function.
  2. Set the ambition. In this step, banks determine the size of the available opportunity. An effective transformation plan requires both a detailed current state baseline and a clear view of target state potential. Success also demands determined leadership, with commitment to capture the full potential. The executive team should discuss any trade-offs beforehand, to ensure alignment.
  3. Establish appropriate governance and focus. The potential value in the transformation requires clear roles and responsibilities. A transformation officer should draw together the threads of the transformation and keep things moving. This is a senior, strategic role, not a project manager. Next, initiative owners design the initiatives, including the financial case, implementation timeline and resourcing, and impact on risk effectiveness. Finally, executive involvement is a must to maintain organisational discipline. Executives, the transformation officer, and initiative owners meet weekly to understand progress, remove obstructions, and ensure the transformation stays on track.
  4. Communicate a transformational narrative. Risk transformations, like any major change effort, require broad organisational buy-in. Both the risk function and the business play a critical role in success.

Transformations involve significant behavioural shifts. Addressing new demands and building new skills requires careful change management and patient leadership sustained over a multiyear time horizon. Successfully transformed organisations know, however, that the rewards—greater risk-management effectiveness at lower cost—are well worth the challenge.

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This article is an excerpt from the McKinsey on Risk article, Transforming risk efficiency and effectiveness.

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