Overview

So far we have discussed how different risk types, such as market, credit, operational, and business risks, can be measured. Yet in order to support top-management decisions concerning capital management and capital allocation, an integrated picture of risks is needed. The challenge of risk aggregation, i.e., the development of quantitative risk measures, such as an aggregated estimate of economic capital, incorporating multiple types or sources of risk (see Joint Forum 2003) across different business units, is therefore particularly important.

Risk aggregation and the size of diversification benefits that might result from being exposed to different risks in different businesses are relevant both from a regulatory and from the individual bank s point of view, even if we focus mainly on the bank s perspective. The debate about the extent of diversification benefits that can be achieved by running different activities in the financial sector has been a topic of discussion in the past during the debate concerning whether restrictions on U.S. bank activity should be abolished by adopting a universal banking approach as in European countries (see Saunders and Walter 1993). In this context, a number of empirical studies were conducted in order to understand whether nonbank activities could reduce overall risk for bank holding companies (for a survey, see Brewer, Fortier, and Pavel 1988). At present, the regulatory debate is related to whether and how diversification benefits among businesses or risks can and should be taken into account in setting minimum capital requirements (see Kuritzkes, Schuermann, and Weiner 2001, 2002;