Business Complexity and Risk Management: Evidence from Operational Risk Events in U.S. Bank Holding Companies Business Complexity and Risk Management: Evidence from Operational Risk Events in U.S. Bank Holding Companies

By Anna Chernobai, Ali K. Ozdagli, and Jianlin Wang

The recent financial crisis has catapulted the regulation of large, complex financial institutions to the center of policy debate. Although regulators have recently proposed complexity as one of the main criteria for the designation of a bank as systemically important, we have very little evidence as to how complexity affects risk management in financial institutions. This issue is further complicated by the lack of a clear definition of complexity. In this paper, the authors follow the guidelines provided by the Bank for International Settlements (BIS), which describe complexity as the activities of banks outside of the traditional business of banking and strictly separate it from other measures such as interconnectedness and size. Based on these guidelines, the authors use the gradual deregulation of banks' nonbank activities in the United States between 1996 and 1999 as a natural experiment that has led to increased complexity in the banking system.

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