An Alternative Story of the Law and Regulation of Risk Management

Abstract

This Article examines the history of the regulation of risk management in the banking industry. Despite the centrality of risk management to contemporary banking law and regulation, its fundamental precepts have largely escaped scrutiny. The Article first summarizes what it means to manage risk and then contrasts a traditional story of risk management regulation with an alternative story. The traditional story posits that regulatory interventions are practical, functional responses to threats to the achievement of regulators’ statutory mandates of system-wide financial stability and institution-level safety and soundness. In the course of summarizing this traditional account, the Article undertakes the first systematic review of the legislative and regulatory actions by which risk management became a public regulatory subject.

The alternative story, by contrast, acknowledges the empirical fact of risk management as an enhanced regulatory priority, but interrogates its normative assumptions. It presents the regulatory focus on risk management as more of a cultural crutch in response to growing anxiety about endemic uncertainty in financial markets – as a reflection of the aspirations underlying the practice rather than the practice as such. Particular attention is given to how regulators have privileged questions of risk control over more basic questions of risk assessment, in the process failing to take account of how banks and regulators view risk in different terms. Though its implications are troubling, this alternative story sheds light on where authorities should focus reform efforts to improve risk management regulation.

Keywords: banking law, risk management, derivatives, new governance, audit society, quantitative skepticism, management-based regulation, internal control, capital adequacy, banking regulation, financial regulation