The writer is chairman of the European Risk Management Council
For more than thirty years, risk management in the financial sector has gradually evolved, shaped by the challenges of a relatively stable and predictable world. Yet today, the global risk landscape is undergoing a significant shift, driven by two relentless forces: geopolitical upheaval and technological revolution.
As these forces reshape politics, economies, markets and societies, traditional approaches to risk management are becoming outdated, exposing financial institutions to risks for which they are ill-equipped.
For more than eighty years, international relations were governed by a rules-based system, underpinned by global institutions and the principle of collective security. That era is now fading. Instead, a new geopolitical reality is emerging in which power, not law, dictates the terms of engagement.
Donald Trump’s return to the White House as president marked a turning point, marking a shift from multilateralism to a more fragmented, competitive and dangerous world.
The conflict in Iran is a symptom of this transformation. It offers a glimpse into a future where geopolitical rivalries dominate, real wars and trade wars disrupt supply chains and financial markets become increasingly volatile and irrational.
As the rule of law weakens, confidence in the financial system also declines. Suspicious trading patterns, crypto conflicts of interest, the decline of enforcement activity, and the forgiveness of financial criminals can collectively undermine trust in the government and market institutions that support financial stability.
As geopolitics pushes the boundaries of power, technology rewires the global economy. The rise of AI is not only changing business models and processes; it changes the structure of society.
Financial institutions are becoming dependent on AI-driven tools, which are quickly evolving into a form of critical infrastructure, concentrating risk in ways not yet fully understood.
The technological revolution has also created intense competition in emerging sectors, fueled stock bubbles and increased volatility in already volatile markets. Geopolitics and technology are now inextricably linked.
The rivalry between American and Chinese companies in crucial industries, from semiconductors to AI, is not just an economic battle, but a geopolitical battle. Both sides wield technology as both a tool for innovation and a weapon of influence, further destabilizing the already fragile world order.
The shift in the global risk landscape poses a fundamental challenge for existing risk management. The environment has become more volatile, complex, interconnected and much less predictable. Yet the tools used to manage risk have not kept pace.
Traditional approaches rely heavily on quantifying risks, categorizing them into silos such as credit, market and operational risk, and absorbing shocks through capital and liquidity buffers.
While these methods are still important, they are becoming increasingly inadequate. In a world characterized by uncertainty, complexity and rapid change, risk quantification has become unreliable and even misleading. Buffers designed to absorb moderate shocks may prove inadequate during very severe system-wide events.
To navigate this treacherous terrain, risk management must evolve. Resilience, crisis preparedness and emergency planning must be central. The dynamic and complex environment demands faster and better decision-making. Delays and poor judgment have become too expensive.
Here, AI could not only be an improvement to existing tools, but also a necessity that provides the ability to process large amounts of structured and unstructured data in real time, identify emerging threats and support fast, informed decisions.
One area where this transformation could be of particular importance is stress testing, which must go beyond a static, theoretical calculation exercise. Instead, institutions should adopt dynamic war simulations, where AI-driven models replicate the behavior of market players, allowing institutions to explore how crises can unfold in complex, interconnected systems.
Such simulations do more than just test resilience. They enable risk managers to experiment with different responses, identify effective strategies and develop credible contingency plans with a level of accuracy previously unattainable. In effect, they create a training environment like the flight simulators used by pilots, where crucial crisis management skills can be developed before a real crisis arises.
Supervisors will also have to adapt. Ensuring that financial institutions have sufficient capital and liquidity remains essential, but will no longer be sufficient. More emphasis should be placed on the capacity of institutions to withstand extreme shocks, on the robustness of their crisis management frameworks and on the effectiveness of their contingency planning.
The financial system is entering a new era characterized by uncertainty, complexity and rapid change. To stay fit for purpose, risk management needs to be fundamentally redesigned.
In a world where geopolitical turbulence and technological disruption reinforce each other, the costs of inaction are simply too high. The institutions that recognize and act on this challenge will not only be better prepared for the next crisis, but will also be better positioned to thrive in the new world.
