Risks in Banking
|Banking, by its nature, entails taking a wide array of risks. Banking supervisors need to understand these risks and be satisfied that banks| |are adequately measuring and managing them. The key risks faced by banks are discussed below. | |Credit risk | |The extension of loans is the primary activity of most banks. Lending activities require banks to make judgements related to the | |creditworthiness of borrowers. These judgements do not always prove to be accurate and the creditworthiness of a borrower may decline over | |time due to various factors. Consequently, a major risk that banks face is credit risk or the failure of a counterparty to perform according| |to a contractual arrangement. This risk applies not only to loans but to other on- and off-balance sheet exposures such as guarantees, | |acceptances and securities investments. Serious banking problems have arisen from the failure of banks to recognise impaired assets, to | |create reserves for writing off these assets, and to suspend recognition of interest income when appropriate. | |Large exposures to a single borrower, or to a group of related borrowers are a common cause of banking problems in that they represent a | |credit risk concentration. Large concentrations can also arise with respect to particular industries, economic sectors, or geographical | |regions or by having sets of loans with other characteristics that make them vulnerable to the same economic factors (e.g., highly-leveraged| |transactions). | |Connected lending - the extension of credit to individuals or firms connected to the bank through ownership or through...
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