Article 4

From: Horseless
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Date: 19 Feb 2008
Time: 13:41:44

Comments

I'm not sure the question of how to fix risk management is well enough defined to be answered. Is it really broken? To say that, you need to say what function it is supposed to perform that it isn't doing. I'm tempted to suggest building a microeconomic model of this. For example, who are the consumers of risk management? Not the shareholders, as Glyn and others point out in the loss of corporate control by equityholders. So are managers the consumers? Enron managers did not 'need' better risk management. They knew what they were doing, and likely at Soc. Gen. they also did not 'need' it if they already knew what was going on. Finance 101 tells us that with perfect information, equity prices would already incorporate the risks. Without perfect information, a larger risk premium is charged that is costly to the firm. The risk management function might be a way to convince the capital markets that there is more information than really exists, so is just a way to lower the cost of capital. A good microeconomic model could also show how the supply of risk management is fed by analysts hoping to get into trading, so that brings in principal/agent issues of multiperiod cozy relationships. What a tangled mess. But anyway, my point is I'm not sure that the goal of risk management has really been defined in a way that shows the incentives leading to the issues we have seen. A less mathematically oriented approach like Michael Porter's Competitive Advantage showing the up- and down-stream influences might additionally show that what Business Week sees as a disaster is just normal responsesto a set of rules.

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