Skip to main content
The Actuary: The magazine of the Institute and Faculty of Actuaries - return to the homepage Logo of The Actuary website
  • Search
  • Visit The Actuary Magazine on Facebook
  • Visit The Actuary Magazine on LinkedIn
  • Visit @TheActuaryMag on Twitter
Visit the website of the Institute and Faculty of Actuaries Logo of the Institute and Faculty of Actuaries

Main navigation

  • News
  • Features
    • General Features
    • Interviews
    • Students
    • Opinion
  • Topics
  • Knowledge
    • Business Skills
    • Careers
    • Events
    • Predictions by The Actuary
    • Whitepapers
    • Webinars
    • Podcasts
  • Jobs
  • IFoA
    • CEO Comment
    • IFoA News
    • People & Social News
    • President Comment
  • Archive
Quick links:
  • Home
  • The Actuary Issues
  • February 2016
02

The evolution of ERM

Open-access content Monday 1st February 2016 — updated 5.50pm, Wednesday 29th April 2020

Paul Harwood’s article, The Evolution of ERM (The Actuary, June 2015, bit.ly/1QZY73e), “discusses how to optimise the second generation of enterprise risk management (ERM)”, and makes the following statement: “In summary, second-generation ERM is about ‘better decision making’ (BDM ERM), which adds value when its users, primarily boards and managers, are confident that they are overseeing, or making, quality decisions.


Paul Harwood's article, The Evolution of ERM (The Actuary, June 2015, bit.ly/1QZY73e), "discusses how to optimise the second generation of enterprise risk management (ERM)", and makes the following statement: "In summary, second-generation ERM is about 'better decision making' (BDM ERM), which adds value when its users, primarily boards and managers, are confident that they are overseeing, or making, quality decisions. BDM ERM connects risks and actions more directly than hitherto".

This statement resonated strongly with a recent paper of mine, which placed ERM in an optimal stochastic control-theoretic framework. The paper can be found at http://ssrn.com/abstract=2660026 by any who wish to study the detail. However, in broad terms, the reasoning runs as follows: 

  • Most for-profit organisations operate according to some profit objective that is to be maximised
  • But this optimisation will usually be constrained in such a way as to avoid (at least, with high probability) certain undesirable situations - dangerously thin capitalisation, overly volatile business volumes
  • The constraints can be interpreted as the embodiment of risk management. The constrained optimisation formulation creates the necessary tension between the profit objective and ERM.

The paper shows how this formulation may be placed in correspondence with an ERM Integrated Framework such as COSO. Many past pronouncements on ERM have been dogged by two criticisms: 

  1. That risk management is essentially negative, a panoply of restrictions that reduce the potential for profit
  2. That, in delivering quantitative conclusions in only the vaguest form, ERM is of limited value for informing business decisions in the manner contemplated by Paul Harwood's article. 

As the third bullet point above makes clear, the first of these criticisms is valid as long as one considers risk management in a vacuum, rather than as a subset of considerations within a larger, profit-orientated system. 

My paper endeavoured to add this profit dimension. It endeavours to establish a fully quantitative optimal control model. The practical implementation of this should lead to results that assist in business decision-making. 


Greg Taylor

Adjunct professor, UNSW Business School, Australia

14 January 2016

This article appeared in our February 2016 issue of The Actuary.
Click here to view this issue
Filed in:
02

You might also like...

Share
  • Twitter
  • Facebook
  • Linked in
  • Mail
  • Print

Latest Jobs

Senior Underwriting Risk Manager

London (Central)
£85K-£95K + Benefits
Reference
124386

Reserving Manager (Contract)

London (Central)
£1200 - £1400 per day
Reference
124385

Life Actuary - Contract - IFRS 17 Financial Impact

England, London / England, Bristol / North Yorkshire, England
£900 - £1150 per day
Reference
124384
See all jobs »
 
 

Today's top reads

 
 

Sign up to our newsletter

News, jobs and updates

Sign up

Subscribe to The Actuary

Receive the print edition straight to your door

Subscribe
Spread-iPad-slantB-june.png

Topics

  • Data Science
  • Investment
  • Risk & ERM
  • Pensions
  • Environment
  • Soft skills
  • General Insurance
  • Regulation Standards
  • Health care
  • Technology
  • Reinsurance
  • Global
  • Life insurance
​
FOLLOW US
The Actuary on LinkedIn
@TheActuaryMag on Twitter
Facebook: The Actuary Magazine
CONTACT US
The Actuary
Tel: (+44) 020 7880 6200
​

IFoA

About IFoA
Become an actuary
IFoA Events
About membership

Information

Privacy Policy
Terms & Conditions
Cookie Policy
Think Green

Get in touch

Contact us
Advertise with us
Subscribe to The Actuary Magazine
Contribute

The Actuary Jobs

Actuarial job search
Pensions jobs
General insurance jobs
Solvency II jobs

© 2022 The Actuary. The Actuary is published on behalf of the Institute and Faculty of Actuaries by Redactive Publishing Limited. All rights reserved. Reproduction of any part is not allowed without written permission.

Redactive Media Group Ltd, 71-75 Shelton Street, London WC2H 9JQ