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Did the ECB target the wrong weak links with its stress tests?

12 September 2016  |  4929 views  |  0

“They (the bankers) must die so the banks might live”... A statement I saw published recently in the Wall Street Journal (WSJ) which struck a chord. It is pretty extreme, but its aim was to highlight blinkered management at the highest levels of financial institutions and the reticence to change. The article argued that an absence of IT awareness in particular led to a fear of technology-led change and consequently an inertia and rejection of an IT transformation that the paper saw as essential to improve a bank’s longer-term chances of survival.

IT-savvy bankers I discussed this with agree wholeheartedly. There was also a significant minority who further believed that much of the substantial sums being spent on IT in banking (over $360 billion in 2016, according to Gartner) are being completely wasted due to their disconnect from the need for a completely new business model.

Looking in the wrong places

This all brings me back to the recent stress tests conducted by the ECB. These tests drew criticism because of their superficiality and the absence of a plan to rectify any of the identified weaknesses within the 51 banks examined. They also didn’t address the failures in the wider system itself. This was a real opportunity for regulators to activate change, but there is a disconnect in what they were testing versus the banks’ current capital situations, meaning they were looking at the wrong weak links.

It could be argued that the basis for the ECB tests was flawed from the outset. They were designed to probe for weakness within individual banks. However, assumptions made around the capital that banks are currently holding as a buffer against losses (and the ability of that capital to absorb any losses) was misguided.

In addition, the focus was almost solely on capital and risk. When we tie this back to the WSJ’s conclusion, it could be argued that the key focus of the ECB’s analysis was fundamentally wrong. Perhaps it should have been on the people – the bankers – not the business?

Time for change

This drew me to think of The OODA (Observe, Orient, Decide & Act) Loop, an aerial warfare concept from the 60s designed to enable fighter pilots to maintain a competitive edge over opponents in close combat. It argues that a successful strategy must favour agility over raw power when dealing with opponents. The successful adoption of this approach on a much wider scale led to the USAF ditching powerful but unwieldy fighter bombers in favour of more speedy and maneuverable planes.

Is it a lesson the banks should take on? Organisations that can process the OODA Loop cycle quickly (and continuously) could gain competitive advantage. Perhaps this is a concept that needs to be embraced more urgently, higher up in banks. Rather than persevering with outdated models, banks must look at transformation.

… And that’s where the people come into it. Banks can tool up with technology, but it will be the ability to use it that makes a difference. Less than 6% of bank boardroom members and less than 3% of bank CEOs have any professional IT experience, according to a recent report by Accenture. Furthermore, the report also said that, of more than 100 of the largest banks surveyed, 43% had no board member with IT knowledge and only 11% of banks had technology committees at board level.

Looking in the right places

The message is clear. The banking industry is not going to come up with a solution if it cannot identify the problem. It has to accept the realities of the challenges it faces and confront those head on, rather than fear a future with a new business model.

Some banks have already made this leap, with a view to being more agile and effective, thanks to transformative technology. But did the ECB scrutinise these forward thinking organisations? I would argue not.

This approach to surveilling the banking system perpetuates the old way of thinking. Now is the time to really face up to the challenges today’s business environment demands. Rather than focus on the mechanics of the banks, the ECB needs to look at the business models of the banks and the executives who devise and drive de-risk strategies, and decide if they are fit for purpose in today’s technology driven environment. Then the bankers won’t have to die, just embrace new techniques and people. 


TagsRisk & regulationInnovation

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