Gina Hertel: Enrico, you were the former chief risk officer for Fannie Mae and PNC Financial during the 2008 global financial crisis. As a former CRO, what would you say are the key areas that chief risk officers need to be thinking about today?
Enrico Dallavecchia: CROs need to pay attention to several areas, but today I’d like to focus on operational risk and credit risk.
We are now operating in a new environment where, worldwide, banks’ staff, service providers, and clients are all, for the most part, working off-premises. But banks haven't based their risk controls, compliance practices, and business processes on remote ways of working. So there has been a significant increase in operational risk.
From a credit perspective, a recession that encompasses most industries and geographies will cause a spike in delinquencies and put a lot of pressure on portfolio monitoring and default management. Banks will have to accelerate their implementation of digital capabilities to effectively cope.
Gina Hertel: It sounds like banks will have to continue helping millions more than they used to – and all at the same time. What will that look like in practice – and will it be operationally difficult?
Enrico Dallavecchia: Yes, it will be difficult. Banks are set to operate in what we call a ‘goldilocks’ economy – one where the temperature is just right. This pandemic will require most financial institutions to alter their business models to handle the increased volume in customer contact.
Staff augmentation is one solution. But just throwing bodies at the problem will not solve it. Banks also need to plan for staff to operate remotely, safely, and ramp up their omni-channel approach to customer interaction. This should be backed up by analytics and digital capabilities that enable staff to work smarter.
For example, robotic process automation solutions like chatbots can help banks respond to customers’ questions more quickly, cost-effectively, and consistently than they could with a traditional workforce alone. They also enhance productivity in call centers where agents are currently exhausted due to high call volumes. And machine learning and analytics models can help devise scripts that will be most pertinent to the current environment.
Gina Hertel: With changes to credit policies, and an increase in customer demand and delinquencies, how can CROs manage their banks’ credit risk during this time?
Enrico Dallavecchia: It’s important to remember that this is an economic crisis, not a banking crisis. It will be harder for banks to manage credit risk. First, because the need for credit is higher. And, second, because banks will have to be more lenient in their definition of financial hardship. For example, if a customer hasn’t lost her job, but her partner has, the bank may allow her the option of a payment holiday. This will put pressure on banks’ credit-loss reserves.
So, even though banks are far better capitalized than they were during the 2008 financial crisis, they need to be even more confident about their liquidity. Risk officers should be stress testing their position regularly, especially given the current level of volatility and dynamic changes to government policy. This is an area that can really benefit from artificial intelligence to help banks model complex, developing scenarios with a lot of variables.
CROs should also be looking to invest very quickly in digital and analytics capabilities that help them to understand which of their commercial clients is in the most trouble, who has the most exposed supply chain, whose business is too concentrated, and so on. I’m talking about things like sophisticated end-to-end portfolio monitoring for early warning signals, collateral monitoring (which becomes a lot more important as more loans go into default), and machine learning to prioritize when, how, and from whom to collect to mitigate loss.
Gina Hertel: Bank CROs are going to be stressed-out at the moment. Do you have any final advice for them?
Enrico Dallavecchia: Yes. This is the perfect storm. It’s impacting almost every country, every industry, and every business, at pretty much the same time. The complexity of this situation is unprecedented. No business continuity or disaster recovery plan could possibly address this exact situation. But that’s the nature of the beast. There will necessarily be some degree of inventing as we go along.
With that in mind, I would say to management: It’s going to be very difficult for you to prioritize what to address first. But data and analytics can help. And you need to find a way to make yourself some headroom. Your job is to think about the problems that will exist in six or twelve months’ time. The way to do that is to delegate, either to your own team or to partners, or both.
Don’t try to solve everything yourself. Speaking to other banks will help you understand their respective risk appetites. Is it higher or lower than yours with respect to, say, collections agents working from home? And what safeguards are they putting in place? Communicate with regulators too: banks will be implementing a whole new set of capabilities – for example, machine learning models to analyze customer data. Banks need to be able to explain these models to auditors and regulators – both to keep them in the loop and to benefit from the collective wisdom they will acquire as they see best practices rolled out across the sector.
Banks are critical to our economy and our society. Right now, management teams need to strike a balance between prudently extending credit to serve their clients and maintaining the right liquidity and capital ratios to stay solvent. Then, and only then, will we conquer this crisis and emerge stronger on the other side of it.
Learn more about how Genpact can help with credit risk management.