Best practice for managing conduct risk in South African banks
Since the global financial crisis, a new risk, known as conduct risk, has emerged. Financial institutions worldwide are grappling with how to manage and mitigate it, while regulators are trying to control it. Developing markets are behind with these developments, and also struggle with additional complexities, such as the lack of financial education on the part of their customers. The serious nature of the situation is expressed in the massive fines that financial institutions around the world, especially banks, have received for misconduct. The problem is exacerbated by the demand for sustainable business models and profits. All stakeholders could be negatively affected by the problem. Academia has not produced much guidance on the topic, especially with regard to developing markets. This research is the first of its kind, in that it assesses conduct risk in South African banks from three different perspectives: the regulatory, the business and the customer perspectives. It works with a qualitative and exploratory approach to produce potential models for regulators and banks, in an attempt to bring clarity to a critical challenge: the regulation, the measurement and the mitigation of conduct risk, using South African banks as an example of a developing market. The findings suggest, firstly, that regulators in developing countries should work with and learn from each other, rather than merely imitating regulators’ approaches in developed countries; secondly, banks need to ensure their top-down strategy filters through to every employee by using a bottom-up approach in combination with a top-down approach; and, thirdly, customers in developing countries lack a thorough understanding of conduct risk, based on limited financial knowledge, which makes it difficult for banks to successfully measure and mitigate conduct risk. Banks need to take the new risk phenomenon seriously and engage with it fully to avoid more damage for all stakeholders.