In the last four months, JPMorgan has agreed to pay $365 million in settling lawsuits surrounding Jeffrey Epstein’s sex trafficking operations. Only recently did JPMorgan notify the U.S. Department of Treasury that there had been over $1 billion in transactions at the bank related to Epstein’s human trafficking dating back 16 years. As former Congresswoman Jackie Speier sadly wrote, Epstein’s “15-year client relationship with JPMorgan Chase
JPM
exceeded the ages of some of his victims.” This is a bank that invests millions of dollars in sophisticated technological systems to price financial derivatives and to measure the value-at-risk of its multi-billion-dollar capital markets portfolios. Yet, we are to believe that it did not have the systems to spot irregularities in Epstein’s financial transactions for sixteen years.
Earlier this summer, Deutsche Bank also agreed to pay $75 million in lawsuit settlements, since after JPMorgan no longer wanted Epstein, he became a client. Somehow, no one at Deutsche Bank thought to ask why Epstein was finally no longer welcome at JPMorgan?
It would be great to think that JPMorgan and Deutsche Bank executives, and those of other big banks, have learned their lesson about not allowing sex traffickers to be their clients. Unfortunately, while $440 million is a lot of money for ordinary mortals, it is not, for multi-trillion-dollar banks. Recidivism at banks is high. Until legislators care enough to design laws that can close banks down for facilitating human trafficking, bank executives and their shareholders will continue to place profits above people.
Banks Lose Millions Annually Due To Operational Risk
Banks lose millions of dollars every year due to failing, or refusing, to identify, measure, control or monitor operational risk exposures. Operational risk comprises a threat to an institution’s earnings and liquidity due to problems with people, processes (such as know your client and detecting anti-money laundering), technology/systems, and external events (i.e., third party vendors, civil unrest, terrorism, and natural disasters.)
Operational risk is a significant source of risk for banks and often plays a very significant role in the cause of banking crises. And it certainly played a big part in the 2007-2009 financial crisis as exemplified by cases of internal and external fraud, over dependence on models, and lack of due diligence in lending and securitization underwriting.
In comparison to other sectors of the economy, banks repeatedly appear more often in lists of top rule violators and pay much larger fines. From 2000 – August 2023, American banks and foreign bank operations (FBOs) operating in the U.S. have had fines or settlements totaling over a quarter of a trillion dollars.
Updated Operational Risk Bank Rules Should Be Welcome
Operational risk identification, measurement, control, and management has long been the most neglected part of overall risk management at banks. Until the Basel Committee on Banking Supervision included operational risk in Basel II in 2006, banks globally tended to define operational risk in different ways, even in the same institution. Not having a uniform decision across an enterprise then makes it very difficult to properly identify, measure, and control operational risk.
Even when operational risk was included in Basel II, it was the least robust part of Pillar I, in comparison to credit and market risks. Additionally, in just about every jurisdiction, banks spent significantly more time trying to comply with credit and market risk measurements, while operational risk received a lot less attention. Moreover, allowing the largest banks the flexibility to use models to measure operational risk has also meant that it is very difficult for market participants to understand the extent of operational risk banks have and how it is being mitigated, if at all, in some cases. Improving the performance of operational risk models would enable bank risk mangers to better identify violations of anti-money laundering and human trafficking processes.
At the end of July, U.S. bank regulators proposed changes in how big banks in the U.S. would be required to measure operational risk. Since bank regulators gave the industry over 120 days to comment, the process is working as it was designed to do so. Despite how beneficial updated Basel III’s operational risk measurements could be, bank lobbyists have launched a full-scale assault on bank regulators’ proposal. They argue that bank rules will reduce lending; never mind that banks can reduce their risk without reducing lending to credit worthy companies and individuals. Bank lobbyists do not mention how it is that banks keep violating processes and laws without much consequence. Imagine how much more banks could lend to the real economy, if they respected operational risk management and did not look the other way the next time another Epstein shows up on their client lists.
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