Are the Largest Banking Organizations Operationally More Risky?

Abstract

This study demonstrates that, among large U.S. bank holding companies (BHCs), the largest ones are exposed to more operational risk. Specifically, they have higher operational losses per dollar of total assets, a result largely driven by the BHCs' failure to meet professional obligations to clients and/or faulty product design. Operational risk at the largest institutions is also found to: (i) be persistent, (ii) have a countercyclical component, and (iii) materialize through more frequent tail risk events. We illustrate three plausible channels linking BHC size and operational risk-institutional complexity, moral hazard incentives arising from "too-big-to-fail," and innovation.

Workforce Policies and Operational Risk: Evidence from U.S. Bank Holding Companies

“…Operational risk has grown in importance over recent years as large operational losses wreaked havoc on the banking industry (e.g., Afonso, Curti, and Mihov (2019), Berger et al (2022)). 1 Value-at-risk model estimates suggest that the largest U.S. banking organizations are in fact susceptible to the occurrence of multibillion-dollar losses in a single calendar quarter (Curti and Mihov (2019), Curti, Frame, and Mihov (2021)).…”

“…Wang and Hsu (2013) specifically focus on the operational risk effects of board of directors composition. Chernobai et al (2021), Curti et al (2021) and Frame et al (2021) argue that bank size and complexity are associated with higher operational risk, while Abdymomunov et al (2020) show that an adverse macroeconomic environment is conducive to more operational losses. Our study is the first to examine the direct operational loss implications of workforce policies at financial institutions.…”

“…WORKFORCE measures a BHC's commitment and effectiveness toward using socially responsible workforce policies. The definitions of all variables are reported in Panel A of Table 1 Mihov (2020), and Curti, Frame, and Mihov (2021)). In this section, we examine whether socially responsible workforce policies at banking organizations are related to the incidence of tail operational risk at banking organizations.…”

“…In the specific context of operational risk,Curti et al (2021) similarly suggest that banking organization size strains managerial oversight and employee focus, hinders managers' ability to monitor employees, and reduces the effort of managers due to intensified agency problems.14 Despite an overall amplification of workforce policy effects at larger banking organizations, however, a potential moderating effect is that larger BHCs are more difficult to manage and so workforce policies may be harder to implement, thus dampening their negative effect on operational risk.…”

An internal fraud model for operational losses in retail banking

“…So, parameter $$$ {\alpha}_{i,y} $$$ is expected to be positive. In a general context, Curti et al 13 and Aldasoro et al 14 empirically find that firm size is relevant for operational losses.…”