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Risk Management in the Banking Sector Study Notes
for Finance Exams!
zoz /o6/17

As we all know, the banking sector plays a key role in the regulation and management of the economy of any
country. Banks not only help channelize savings to investments but also encourage economic growth by allocating
these savings to investments for higher returns. Just like in any sector, there is a considerable possibility of “risk”
in the banking industry as well. RBI Grade B aspirants are required to know about the risks involved in the
banking sector and the ways in which these risks are managed.

Therefore, Risk Management and the role of the Reserve Bank of India (RBI) in risk management is an important
topic with respect to all perspectives. Now, let us learn more about the risks in the banking sector and how they
are managed by the RBI, one of the major Re ilators of Banks and Financial Institution.s.

The below finance study notes emphasize on the quotients like what is risk management, what are the types of
risks the bank faces, and how they manage the process of risk management.

What is Risk?

Risk can be defined as ‘a condition wherein there is a possibility of undesirable occurrences of a particular result,
known or best quantifiable and therefore insurable.’ In other words, risk can be understood as an unpredictable
event with financial consequences resulting in reduced earnings or loss.

Just like any other commercial organization, banks also take risks, which are found in any business. Many times,
higher the risk taken by the banks, greater are the gains. However, higher risks may also result in huge losses.

Risk-Return Relationship Model

The relationship between risk and return states that higher the risk, higher is the return, and vice versa. Through
this principle, low levels of risks are associated with returns of low potential and high levels of risks with high
potential returns. The below diagram is shown to explain this concept:
 risk-return relationship model

HIGH ]
RELATIVE
_ COh1FORT ZONE _
High Risk Lo‹v Risk High Risk Low Risk
Low Return Low Return High Return High Return
RISK

LO¥V

LO\Y HIGH

RETURN

You might also be interested: Securities & Exchange Board of India (SEBI)

Types of Financial Risks and Ways to Manage Them

As per the finance indust , there are five main eyes of risks. They are as follows:

Interest Rate Risk

Credit ILisk

Liquidity Risk

Market Risk

Operational Risk

Also check our article on: National Bank for A•qriciiltiire & Rrn’a1 Development fNAB4RD)

Interest Rate Risk

The Interest Rate Risk (IRR) is the chance that the in estments in bonds will suffer as the result of
unexpected changes in the interest rate.
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