Silvan Ebnöther and Paolo Vanini

Alexander McNeil

Pierre Antolinez

The Basel Committee on Banking Supervision (“the Committee”) released a consultative document that included a regulatory capital charge for operational risk. Since the release of the document, the complexity of the concept of “operational risk” has led to vigorous and recurring discussions. We show that for a production unit of a bank with well-defined workflows operational risk can be unambiguously defined and modeled. The results of this modeling exercise are relevant for the implementation of a risk management framework, and the pertinent risk factors can be identified. We emphasize that only a small share of all workflows make a significant contribution to the resulting value-at-risk (VAR). This result is quite robust under stress testing. Since the definition and maintenance of processes is very costly, this last result is of major practical importance. The approach also allows us to distinguish features of quality and risk management respectively. Finally, the methodology is designed to relate risk measurement to the concerns and risk tolerance of risk management.