Risk management

From the beginning of the history of mankind, one of the most critical parts of a person’s life is how to manage risks. We encounter risks every day, a possibility that we cannot escape.

Consider fire, one of the greatest inventions of mankind. Civilization would not have been possible without fire. However, fire is one of the biggest potential risks that every individual and business must be aware of on a daily basis. Every household must prepare for its possibility which can destroy properties and lives.  Every business with physical assets must also be conscious of the possibility of a fire destroying the whole business.

Fire is only one of the many possible risks that persons and businesses need to prepare for. Other possibilities are typhoons, earthquakes, floods and other natural disasters. As the world becomes more complex and technology more advanced, the definition of risk has expanded beyond those natural disasters.

For example, there is the existence of reputational risk which can pose a hazard to people and businesses. It can even affect the stature of nations. The existence of social media has increased the potential of this risk. Persons have been driven to suicide by the negative effect on their reputation through the internet. On the other extreme, the invasion of Ukraine has led to a world reaction against Russia, leading to trade and investment sanctions.

The management of risk has become a very critical area for individuals, businesses and nations. It is risk management encompassing the identification, analysis and response to risk factors that form part of the life of a person, a business and a nation.

Effective risk management means attempting to control as much as possible the future outcomes by acting pro-actively rather than reactively. It offers the potential to reduce the possibility of the occurrence of risk and its possible impact. For example, how do we manage to reduce the possibility of a fire occurring? If a fire still occurs, how does a family prepare for a potential impact of losing a home and all the contents of the household?

The most ideal response to risk takes one of the following forms:

• Avoidance. A family may take all the necessary precautions to avoid the possibility of a fire in the household. This is the same for a business and a nation as they attempt to eliminate a particular risk by getting rid of its cause.

• Mitigation. This means that if the risk cannot be totally avoided, there should be an attempt to decrease the projected negative impact associated with it by lowering the possibility of its occurrence. Companies therefore will resort to risk and safety engineering or employee training as a means of mitigating risks. Nations conduct disaster warning devices and prepare evacuation centers to prepare for typhoons and floods.

• Acceptance. In some cases, individuals, businesses and nations may be forced to accept a risk. In this possibility, households may purchase fire extinguishers and businesses may develop more sophisticated means of extinguishing fires. Nations realize that typhoons and floods may not be impossible to avoid and therefore prepare for disaster relief.

Thus, the importance of risk analysis in the process of risk management. Certain basic steps in the risk analysis process are:

• Identify existing risks. This has become a critical step because of the development of new types of risks, especially the rapid advance of technology, which can render certain businesses obsolete. The most critical risk for the whole world now is climate change. Although this is an obvious risk, most nations and businesses still refuse to prepare for this.

• Assess the risk. In many cases, the most important step is to identify the risk and its causes. It is critical to determine what caused that risk and how it could impact the person, the business or the nation. In the case of a person’s health, for example, it is important that the cause of a major health crisis be identified so that the person can go to the next step in the risk analysis process.

• Develop an appropriate response. Once the risks have been properly identified and assessed, the next step is to look for likely remedies to mitigate and identify risks and prevent their recurrence.  The important question is to ask what proper measures can be taken to prevent the identified risk from recurring and/or what is the best thing to do if it does recur? In the event of an earthquake, how does one prevent a building or a home from collapsing? If this cannot be prevented, what is the best thing to do if the building or home still collapses? In the case of nations, how do we prevent another country from forcibly occupying our territory? In the event this still occurs, what is the best thing to do?

• Develop preventive mechanisms for identifying risks. The result of the assessment of risks and the steps needed for appropriate response should be developed into a number of tasks and then into contingency plans that can be deployed in the future. Unfortunately, these plans are often ignored after the risk occurrence has disappeared.

The most common protection for risk is insurance which provides reimbursement for the losses in the event of the occurrence of risks. However, new and evolving types of risks have led to new and evolving types of insurance coverages, including Alternative Risk Transfers. This will make the world of insurance the most exciting field in the area of risk management today and in the future.

Let me add that my professional direct experience with risk management comes from my position as board chairman of Lockton Philippines Insurance Brokers Inc.

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