Operational Risk in Payment System

Only available on StudyMode
  • Download(s) : 54
  • Published : January 29, 2013
Open Document
Text Preview
Operational Risk in Payment Systems
A Perennius Ensemble White Paper By Jim Jones

Operational Risk in Payment Systems
A Perennius Ensemble White Paper By Jim Jones

Abstract
This paper payments. faster, and of controls investigates the operational risks associated with the processing of It also clarifies why traditional controls are no longer adequate to handle in some cases, real-time processing cycles, and recommends a new series – known as Parallel, Autonomous Audit – as the solution to these problems.

Operational Risk – A Definition
Operational Risk is one of the more recent additions to the “risk” family, and therefore one of the least well understood. However, we have known about some of the components of Operational Risk for many years. The Bank of International Settlement (BIS) Glossary gives the following definition of Operational Risk: “The risk that deficiencies in information systems or internal controls could result in unexpected losses.” A similar definition of Operational Risk appears in the Federal Reserve System Trading Activities manual: “ …the risk of human error or fraud or that systems will fail to adequately record, monitor, and account for transactions or positions.” These definitions show that although Operational Risk may give rise to incorrect financial information, it is not quite the same

as Financial Risk, which encompasses Settlement, Liquidity, Credit, and Exchange Risk. A number of regulatory authorities are beginning to focus on Operational Risk, now that they are beginning to get Market and Credit Risk under control. Operational Risk appears as one of the cornerstones of Basel ll, and is found or implied in Corporate Governance regulations such as Sarbanes-Oxley section 404. ISACA has done much work to provide a framework for Operational Risk through its COBIT approach. (For more information about COBIT, please visit www.isaca.org.)

Where Operational Risk Exists in Payment Systems
Operational Risk arises in a number of areas within Payment Systems: Processing risks. Authorization risks. Computational risks.

© 2006, Perennius Ensemble Ltd.

Page 2 of 7

Operational Risk in Payment Systems
A Perennius Ensemble White Paper By Jim Jones

Processing Risks
Whether a bank handles a payment transaction manually or via a computer system (or a combination of both), there is a risk that it will not reach its intended destination either within an acceptable timeframe – or at all. The effect of this may be small if a 24 hour delay of a retail customer’s payment does not result in a financial penalty. However, the customer’s dissatisfaction may find expression at a later date when there will be a definite impact on the bank’s business (e.g., if the retail customer ever becomes a Corporate customer). In addition, if the payment is: A High Value time-critical payment, such as a domestic RTGS payment or an international CLS Payment, the bank may face fines of many millions of dollars for not meeting its Service Level Agreement with the customer. It may also lose the Corporate account to a rival bank. In addition, under the SarbanesOxley regime, a Board Member might face prison time, and in the United States at least the customer may sue the bank for Consequential Liability, the penalties for which could put the bank out of business. A domestic Low Value payment such as an “on us” payment check, may get lost in the Back Office of a bank. Likewise, an inter-bank payment may not reach the Clearing House, the Clearing

House may not send it correctly to the Central Bank for Settlement, the Central Bank may not return it correctly to the Clearing House after Settlement or the Clearing House may not send it correctly to the intended receiving bank. An inter-bank High Value payment, the transaction path may be shorter (going from the originating bank directly to the Central Bank for Settlement and then to the destination bank). However, the payment may still go astray, and since...
tracking img