Emerging markets pose a challenge, says survey

Banks across the globe are becoming increasingly sceptical about the economic prospects of emerging market economies like India and China, according to an annual survey by PricewaterhouseCoopers and UK-based Centre for the Study of Financial Innovation.

"Emerging markets are making a comeback as a concern (up from 15th in 2005 to 9th in 2006). There is growing disbelief in the economic miracles of countries like India and China, and a fear that the developed world may have taken on too much finely priced exposure to them," the survey said.

The survey, which is called Banking Banana Skins as it considers risks to banks as banana skins that can cause the fall of the unwary any time, finds out the concerns of leading members of the banking industry. It identifies a total of 30 potential risks and ranks them according to severity.

The 2006 survey is based on responses from 468 bankers, regulators and observers. Respondents from India showed a high level of concern with financial crime (fraud and money laundering) and with market risks (commodities, equities, interest rates and currencies).

The top 10 banana skins or concerns since the first survey in 1996 go to show how concerns have changed over a decade. One of the most striking is the disappearance of concerns of the 1990s like infrastructure issues including back office.

The focus has now shifted to newfangled risks such as derivatives and hedge funds. Notable this year is the surfacing of commodities and emerging markets among the top 10 concerns.

Millen L Simpson, market risk and liquidity co-ordinator at the Federal Reserve Bank of San Francisco, said, "Emerging markets have been well behaved for quite some time, but imbalances seem to be forming as investors chase yields."

Operational risks feature strongly in this year's Banking Banana Skins survey. It includes the risk of high dependence on technology, as the complex and distributed systems used by banks are becoming increasingly vulnerable to hackers, fraudsters and terrorists.

In the area of risk management, banks may be falling behind the rapid pace of product innovation and are relying on dubious risk models rather than on human judgement to manage their exposures.

"Technology seems to be moving further and further away from mainframe processing to distributed systems, which require different forms of security. The security seems to be more vulnerable to penetration," the survey noted.

Top people in banks showed a clear focus on regulatory issues. Otherwise, their concerns were very much with the risks posed by the operating environment "� markets in particular. Technological dependence and exposure to fraud were their other high-level concerns.

The challenges of risk management featured strongly in responses from the world outside North America and Europe, with the volatility of credit, currencies, interest rates and equities high on the agenda. This group was also concerned about money laundering and fraud.