Commercial Banks Case Study

Risk management depends on the internal and external environment of the banks, that is why constant consideration should be given to risk identification and control (Hussain and (Al-Ajmi, 2012; Tchankova 2002), so that risk should be identified and a decision should be taken whether to mitigate, transfer or accept the identified risk depending upon the situation. A volatile macroeconomic environment with uneven economic performance, unstable exchange rate and asset price are causing volatility in the financial system. Such an environment makes it difficult for banks to evaluate their assets and financial risks realistically, such as unstable macroeconomic conditions causing higher probability of credit risk exposure to the banks. Furthermore,

Such small banks have problems with their capital, and they may need to exercise extra caution while carrying out their lending business. At the same time, both small and big banks compete for the same customers and customers will go where services are reliable, flexible and efficient. Such stiff competition comes with disadvantages to the small banks and this is what may lead to poor credit standards. Some commercial banks may want to loosen their rules and break some common rules in lending so as to win customers, in the long run exposing the banks to higher risks (Basel,

One example is risk based pricing and in this method, banks will at different investments based on the risk perceived per investment. A bank may charge very high rates from a risky business and lower rates from a less risky business. Covenants are also another method that banks can apply to control risk. Specific statements may be included in the loan agreements and credit contracts on what to do or not to do within that period of the loan. Such statements help in credit risk control. Diversification is another way of managing credit risk. With diversification, commercial banks can look for 4 different types of borrowers and invest in different businesses. A commercial bank that concentrates on lending heavily to salaried people of a particular company may suffer heavy losses when such a company closes down and all borrowers are unable to pay their loans. With diversification therefore, commercial banks can lend to different people, salaried people, manufacturers, farmers, technology experts, mining industry employees. In this case, it is very difficult for borrowers from all sectors to default at the same time (Fitzsimmonset al,