Risk is inevitable within the current global business environments. In order to create profits and shareholder value, organizational management must take and manage risks. Many corporations and business entities have not prospered very well due to inabilities to either manage risks well or fully understand the kind of risks they are taking. Effective management of risks should be part of the overall strategies for growth and development of a business entity.
There are persistent debates ragging on whether risk management is an art or science. For the past decades, often spirited art-versus-science debates have dominated numerous extensive bodies of literature on organizational management. An art-versus-science dialogue has flourished in administration of many business operations as well as in public administration. Risk management is very crucial in facilitating the exchange of information and expertise across various departments in organization. It is useful in generating ideas and promoting good practices among responsible personnel in the organization. The consequences of crude assessment of risks include loss of business, reputation and opportunities (Donald 2008, p.40).
However, among the scholars, there has been a longstanding debate as to whether or not risk management is a science or an art. While there have been divergent opinions in the issue, some quarters are of the opinion that risk management is both a science and an art. These arguments are specifically discussed below.
Risk management is an art not a science
The argument that risk management is neither science nor art has been subjected to a lot of debates. Science is a method or a technique of doing things. It is defined as the organized and systematic ways of gathering knowledge about certain event or the world and condensing the knowledge into testable ways and principles. Risk management is the identification, assessment and prioritization of risks. After prioritization of the risks, the management coordinates and economically applies the available resources to minimize, monitor and control the chances of occurrence and their impact upon occurrence. this is a strong argument is favor of risk management as an art based process, since such classifications require application of personal reasoning which cannot be supported scientifically or applied universally.
As an art based process, the main objective of risk management is to maximize the realization of opportunities in order to create share holders value. This represents an opportunity for the risk managers to put into place specific measures that are non structural to reap the returns from viable but risky markets that have been ignored by other players.
Real science has element of repeatability of the results of the preceding experiments or research. Project implementation requires substantially resources hence risk managers cannot repeat the process time and again. In order to maximize the realization of opportunities, risk managers have to undertake all the necessary risk management steps. Once the project has been implemented and risk management has been effected, it cannot be repeated once again. This is a weak point of risk management process that is art based in design and application as it does not permit organizational learning process. On the other hand, science and scientific findings are subject to universally accepted scales of measurement. Risk management is carried out differently by different organization because of the fact that the process is influenced by the environment within an organization is operating. As discussed above, the main objective of risk management is to maximize realization of opportunities and creation of share holder value. Risk management is not science in the sense that science discipline is directed towards stimulating new knowledge and new learning (Peroff 1999, p.1)
Risk management is far much different from science in the sense that the former follows specific approach. Unlike scientific methods used in discoveries, good risk management gives the risk manager reasons why they should implement it based on the real situations. The approach used in an effective risk management is based on how the world works. Normally, risk managers follow specific pattern in their work of minimizing risks in order to create shareholders value. Science is a body of knowledge about certain phenomena. Explorations and discoveries are not carried out in a particular pattern since most of them are based on what other people say or have said. In most cases, science involves running off and, doing what other people in the past have done. In risk management, risk managers and other experts have to adhere to several steps for the process to be effective.
As such, the outcome is very effective and thus augments the competitive edge of an organization based on its strengths of critical success areas.
Since science based approach to management is never falsifiable, it is nave to argue that risk management is a science. During implementation of major projects, risk experts are called upon to identify and assess the risks that are likely to be incurred. Some of the common risks that organizations are likely to face during execution of projects include risks of cost over-runs, inflations, natural catastrophes, failures of accountability, damage of reputation in the market among others. The risks may be operational such as disruption to supplies and operations. To critically manage this risks which are highly characterized by high degree of subjectivism and need for personal reasoning, it is not factual to argue that risk management is a science. According to Peroff, any science based research process is constructed specifically to be blown apart if proved wrong, and if so destined, the sooner the better (1999, p.92).
This differs from an art based management which is constructed on al lot of uncertainties and has rooms for personal decisions as well as contingencies. The existent uncertainties and contingencies in any organization however fuels the threats faced as there will be no one best way to manage a risk. Based on the dynamic nature of business today, it is critical as significant to note that one managerial decision may not work in a given environment but successfully generate positive results in another environment that is completely different in setting and business operational practices.
For example, in the management of interest rates risks, a risk manager will be concerned with the value of the cash deposit and floating debt. The interest rate risk usually occurs when there is a persistent change in the value of the bond. It may worsen when the bond value increases. The financial instruments are very sensitive on the overall profit of an organization. Increase on the rate of interest will adversely affect the overall organization profit (Smart Megginson 2008, p.259). If a science based approach is used, during high interest rates, the costs of debts will be high and the decision rule of thumb may that no external finance should be sought.
In aviation industry for instance, risks that may be faced in relation to international transactions may include such risks associated with debt settlement, fuel payments and also the capital expenditure (Michael et al 2005, p. 278). For example, British Airways is currently faced with the challenge of providing other form of security to the lenders and or minimizes the amount of borrowing (British Airways 2009, p1)
This represents the weakness element of the SWOT quadrant, if the risk management concept is viewed as a purely science based concept. However, application an art based management may call for use of various managerial approaches to mitigate and minimize the potential threats. The best strategy, in this case to manage this risk may be by signing forward contracts and also uses of loan renegotiation strategies.
Risks are probable that it will occur in the future and it will affect business economically. Risk identification does not involve following what other people have said because the process is affected by the business environment. In reference to risk identification, risk management sharply contrast with science. In science, some of the risks under study are less probable that they will occur in the future and are of less economic importance. Science involves discovering new ideas or information or using already formulated body of knowledge when responding to certain phenomenon. The quantities measured in science have natural characteristics. For example, exploring the whether or not human being can live in other planets. Use of these reasoning may be expose an entity to more threats since the evaluators may ignore the common facets of risk elements in a bid to make new discoveries that may not be possible. In risk management, not all risks to be identified have natural characteristics. Some are associated with human activities, for example, inflation and unemployment are attributed to global human activities.
In the past decades, there have been seemingly numerous reports on health problems from the global environment. Myriad announcements about air pollutions, water contamination, and hazardous waste sites have created a lot of concern in many organizations around the world about their impacts on the modern industries. Apparently, management of many business entities want to understand whether or not to the exposures to this chemicals threaten the health and the well being of employees which in turn affect business operations. Decisions made by the management concerning the effects of these environmental issues are commonly based on evidence from the staff exposed to these chemical substances in the workplace. In science, such decisions are based on evidenced obtained in animals under experiments with high concentrations in the laboratory. Risk managers have a duty to critically examine the occurrence of such health problems in the workplace, so that they can make rational decisions about the importance of reducing exposure or the effects of the hazards upon exposure. However, science lacks reliable means and techniques to measure these health risks especially when exposures are small.
However, Samad-Khan, Rheinbay and Le Blevec argue that any attempt to present risk management as either a science or a pseudo-science is misplaced as such act are giving operational risk modeling a bad name (2006, p.6). This contrasting argument is based on the fact that an art based process is characterized by a lot of prejudice which results into very huge variations in results obtained.
For example, under Enterprise Risk Management systems, to have astute risk identification process that facilitates successive risk prioritization and aggregation in order to achieve business goals within the organizational risk appetite, very many aspects of personal opinions are applied. There exists great deal of limitations in such scenarios resulting from the realities that management judgments involved in decision making might be faulty hence ineffective. It is vital that decisions made regarding particular risks and control establishment should incorporate relative costs and benefits. During this exercise, breakdowns can occur due to simple human errors or mistakes. In most cases, established controls are circumvented when two or more people collude hence overriding enterprise risk management decisions. These limitations preclude and contravene with the strategies aimed at achieving specified entitys objectives
Particularly, the events which interfere or believed to interfere with the attainment of corporations objectives are regarded as risks and suitably classified based on subjective factors as well as organizational specific factors. Additionally, since risk identification is a prerequisite for proper objective achievement, some of the key performance indicators used by corporations to describe business objectives include Return on Equity (ROE), operating income, Earning per Share (EPS), Risk Based Capital (RBC) and Risk Adjusted Return on Capital (RAROC). Through these performance measures, risks are recognized according to the strategic goals that have been laid down by the corporation. This is the first step of implementing sound ERM process (Malleret Cleary, 2007). However, all these performance indicators are not scientifically arrived at and can be calculated or arrived at differently by different evaluators. This may serve as a major point of weakness more if an extensive comparative analysis is not carried out. As such, risk management has been described as a non science based concept that is specific to an organization, place, period and environment
Unlike risk management, science, in the absence of ability to measure risks directly, does not offer direct and somewhat certain estimates.
Project implementation requires that risk managers and other management experts should be able to measure and determine the extent of risks directly so as to establish better ways of reducing their effects for the economic benefit of the whole business entity as well as the vulnerable in the society (Yodmani 2001, p.8). Estimates and project plans in risk management must be accurately and efficiently established. This calls for knowledge and skills which can be acquired through experience with similar areas. In most cases, it involves exposures to realm situations which cannot be learned very easily from books. Risk managers are brave enough to face challenges during implementation of particular projects as they possess sufficient knowledge to counterattack their effects. In risk management, experts and other organizational management should be able to track the actual outcome verses the estimates. These serve as a both show of strength and ability to identify and make use of the available opportunities in the market. Effort, however, must be tracked throughout the processes of project implementation.
In science, hypothesis used to test the effects of certain events or specific substances are qualitative in nature. For instances, biological data on health hazards suggests that any exposure to toxic substances may pose health risks to the public. Scientists consider a qualitative response to particular risks as the bets option even in the face of impressive scientific advances. Ideally, the increased recognition of that further emergence of the health problems due to more chemical waste in the natural environment is overly simplistic and does not provide adequate basis for organizational decision-making. Quantitative risk assessment methods employed in risk management are very attractive because it allows risk managers and other decision-makers to discriminate between important and trivial threats (Cookie 2009, p., 1).
Risks undoubtedly exist, and their consequences can be easily quantified. For example, terrorisms and other forms of violent attacks usually occur around the world. As part of risk management, actuaries can have a stab at the monetary value of the assets destroyed and the value of the business lost. Risk management requires prudence during assessment and quantification in monetary value the economic hack after such mystery. Since these risks can be quantified in monetary value, organizations are able to set up contingency plans in anticipation of the occurrence of these risks. Science analyzes impacts of terrorism on the future generation. It does not stab the monetary value of the people injured as in risk management hence resulting in a lot of difficulties in deciding the units of measurement to be used in measuring how it pervades the daily life of individuals.
Risk management is based on instinct intuition and experience. Risk management is evident in human daily lives. For example, before one crosses the road, they have to predict the risks basing on judgment. Organizations implement programs considering the possible risks to be incurred in reference to the past experience. Organizations faces a lot of risks in all business operations hence this enables them to predict in advance the possible danger of doing specific business activity. Science involves observation of phenomena and measuring the subject of inquiry. The observations are then theoretically or hypothetically explained basing on their measurements. In risk management, experts just investigate on the possible occurrence of suspected risks but no observations are made. During project implementation, risk managers have to review past events so as to calculate possible impact of particular risks on the economic status of the organization. For example, a project which requires advent technology might be considered disastrous to the organization because of it might be obsolete. Basing on the economic environment, risk managers might conclude it as one of the risks that is likely to affect financial status of the organization if it becomes obsolete.
Notably, in adherence to the stated objectives, risk management can be practically managed by business entities. The risks involve in implementing a particular project can be eradicated through interventions. Risk managers have control over risk management techniques hence can be changed at any time to when need be. Even though, risk management follows specified procedures, managers or employees are able to hinder the occurrence of particular risks in the course of their work. In the practical realm of risk management, business entities can manage risks in order to achieve specified objectives. If in the course of executing a particular project, the management realizes that the methods of counterattacking the risks speculated, then it can set up new strategies which can protect the organization from economic impacts of the risks. However, science cannot be manipulated because of the fact that it is a body of knowledge based discipline a major weakness of the argument that risk management is science oriented.
Managing an organization involves no particular formula and it is impossible to achieve same ends time and again. Different risks are managed using different risk management techniques. For example, if risk managers have identified that floods and accidents are some of the risks which might be incurred during implementation of a major project, then it has to set up different plans so as to counterattack the effects. The methods that will be used to reduce the economic impacts of the accident will be quite different from those used in managing floods. Risk managers use different formulas to manage different risks and different results will be realized depending on the severity and the frequency of the risks. Such capability to manipulate and customize risk management, as an art, serves as a major strength of the concept. Art based management is too subjective hence can be easily predicted. If risk management was a science, it would suggest specific formula for management and that same ends can be achieved time and again. For along time, risk management was regarded an activity which involves application of the conclusions and inferences of relevant qualitative sciences.
Currently, it is increasingly appreciated that management of risks in organization require substantial skills and knowledge of leadership and governance. Business and moral ethics have to be adhered to during project implementation. It is mandatory that risk managers possess these qualities and should be driven by the objectives of the organization. Scientific research and studies are not commonly bound by any organizational objectives. Post-normal science lacks inevitable sorts of uncertainty and value-commitments which are necessary during decision making by organizational management. The ingredients of science should be complemented by other risk management considerations which are commonly derived from organizational policy aspects. Science analyzes what the society and the whole is likely to face in the event of rapidity and complexity of the universe. Risk management tends to modify how an organization will cope up with the changes of all sorts of that occur in the global economic environment. Unresolved debates in science has no much impact on the human lives but lack of trust and governance among the risk management amounts to a lot economic problems which can lead to economic stagflations (De Marchi Ravetzb 1999, p.2).
Science in itself cannot provide all that is necessary for decision making on risk issues during project implementations. Science encourages union of views, ideas and opinions of various people thought to have relevant scientific knowledge. In major scientific events, dialogue between different agents from both society and government is encouraged. For instances, the work of American Association for the Advancement of Science has been subject to views and opinions from different parties around the world. Experience researchers are encouraged to fully participate in exploration of more unique features around the world. In the event of dialogue, opinions of others might dominate hence exploration process is done following the ideas of the dominant people.
Organizations risk management techniques are not supposed to be exposed to either public or any other person who is not relevant in the organizational management. Risk managers and other relevant experts contribute on how to effectively manage risks in the organization and the ideas are opinions are critically analyzed from different perspectives. Risk managers should not exclude or neglect contributions from different parties to the risk management process and project implementation. Communication and trust is very crucial hence treating others with incomprehension or disdain paralyzes risk management activities (De Marchi Ravetzb 1999, p.2).
The popular imaginations and perceptions that science is very complex are not true. Rocket science is one of the totemic example of scientific complexity which has been subjected to great deal of arguments by most leading academic experts on whether the if the discipline is far much more complex than risk management. Scientists studying turbulence do not go much deeper to examine some of the virtual risks associated with the phenomenon. Risk managers must, however, deal not only with risks that are revealed through science, but also critically analyze virtual risks i.e. risks where science discipline is inclusive. It is a matter of fact that everyone now has a duty of care in identifying all the possible risks which they might come across in their daily lives.
Furthermore, they should demonstrate that they possible relevant skills and knowledge to control them. From organizational context, projects implementation calls upon risk managers and other top management to be careful in responding to possible risks. The affluent global economy is drowning in risks management. Science does not involve every body as this is only undertaken by people who wish and have ambitions of exploring more about something. Risk management is a business tool for creating shareholders value whereas science involves using of scientific methods to test particular actions. Furthermore, science involves giving a rational explanation about observed phenomena. Risk management does not undergo rigors of peer review hence it is not a science.
Risk Management Is a Science Not an Art
Based on the fundamental tenets of the discipline, some researchers are of the opinion that risk management as any other management function in the administration of business is a science. However, this claim can only be deduced from an analytical review and understanding of the recent developments in risk management. In the ancient days before the advent of new technologies and effective methods of management, management of risks was done basing on the historical precedence as opposed to investigative approach used in the modern days. The traditional risk management was characterized by reporting of cases with great emphasis on the historical precedence. Without critical analysis, corporations embrace IT in their operations resulting to unnecessary investment in systems infrastructure.
The traditional risks management, such as incorporation of IT to counterattack major suspects such as external hackers has led to overly burdensome security restrictions which affects daily business operations. Today however, such tools as Enterprise Risk Management systems which view risks comprehensively by using root because approach is applied. Through this approach, management is able to analyze risks from all perspectives (John 2004, p.100). Large retail corporations have adopted ERM as a tool for assessing the feasibility of taking broader approach to management of entire organizational risks so as to develop effective future strategies. Evaluation of hazard risks in conjunction with financial risks programs and strategies have been carried out effectively using concepts of ERM. Chief Financial Officers are obliged to identify appropriate methods of managing risks identified on a collective basis. Within ERM framework, can easily identify and report on effective processes to deal with risks identified.
Evidently, the use of modern technologies in risk management implies that the concept is largely science based. Significantly, Peroff argues that any managerial aspect of science if done correctly, can enhance good managerial skills and also advise the risk manager in all of the day-to-day decisions and actions (1999, p.92).
Any science based discipline as opposed to an art subject requires use of both qualitative and quantitative data that is statistically collected, collated, analyzed and inferences drawn from. Specifically, any science based research requires that the data the data collected is duly interpreted and related to an existing theory or valid theories through deductive and non deductive reasoning. In relation to risk management, it can be argued that the process is not an art but a science based subject that requires scientific data collection and analysis from which inferences are drawn. Further, the emergent rules in risk management require that the risk managers be able to group the data, and communicate the findings upon the scientific analysis processes using such tools as Information Technology. As a matter of fact, in most corporations today, the technical aspects of risk management are given extensive attention through application of modern data collection, analysis, and interpretation and communication tools.
However, there is bound to be some weaknesses and threats as regards the reliability of the data that is scientifically analyzed and interpreted per se. This weakness of the scientific data analysis is based on possibility of unreliability of data as well as threats to internal validity of analyses which can be reduced through subjective processes.
Statistical analysis has been adopted as a powerful methodology during risks management. This methodology is only effective when the risk managers are capable of accessing adequate amount of relevant data. In most cases, this is not true hence posing a lot of difficulties. Statistical analysis requires actuaries and managerial accountants who can project future sales and financial outcomes. Many organizations however do not avail sufficient data reliable to create statistically valid inferences. Additionally, the ever changing business environments renders past data invalid for projecting future outcomes
It is important to understand the fact that in such cases, risk management strategy adopted should not be narrowed down to addresses the tons of numbers and the stacks of risk reports or data collected. At the same time, risk management can only be successful if the risk reports are effectively communicated from the top management to operational units. This should be done using properly designed risk reporting systems and they should provide succinct summaries of the essential risk information.
Peroff argues that any science process involves the expansion of sensory capacity by instruments, the classification of data, and the interpretation of data guided by theory (1999, p.92). Similarly, as a science based process, it is critical that the uncovered information include broad range of corporate risks and also allow those responsible for the risks at the operational level to access more detailed information about the risks. Under this stage of risk management implementation, software for both qualitative and quantitative analysis of the risks should be developed. One of the common software used is dashboard, an interface which provides role based information to the responsible persons at the operational level. Risk register is useful software when reporting and managing risks. This software records vital information including impacts of risks on key performance indicators, risks assessments, risk management tools and responsible management personnel (Jing Brockett, 2007, p.1).
Risk management is a systematic and logical process that is repeatable and verifiable. As such, it qualifies to be a science based discipline as espoused in its features and methodological application according to Peroff any science discipline or learning process is marked by differed diagnostic features. These features include the repeatability of nature of the research results, preferably by independent investigators, possibility to report the research as simply and elegantly as possible, the outcome of the study must not only be universally accepted but also show unambiguous scales of measurement (1999, p.93). further, as shown by the scientific aspects of the risk management process, it is imperative that the process leads to stimulation of new learning processes and enhance development of new knowledge apart from being very consilient and consistent.
This aspect is the core of risk management in many corporations. Systematically, in many entities today, integration of risks does not involve mere stacking of all risks together, but rather a systematic approach that is science oriented. It is a procedure of fully recognizing the relationships between risks and prioritizing on them so as to create true economic value to the shareholders and other stakeholders as well as ensuring that there is compliance with the laws and organizational control (Bonoan 2007, p.1 Chapman, 2007, p.1).
Risk Management is neither a Science nor an Art
In conclusion, from the above analyses, it is evident that risk management has both elements of both science and art disciplines. As such, it is critical to note that risks management is neither a science nor an art but a combination of the two disciplines. As such it is a pseudo-science a pseudo-art. The conclusion is based on the fact that the subject has both elements of statistical measurements from which inferences are drawn. However, there are many assumptions and subjectivism that underlie the concepts just as any other art subject discipline. Most often, the application of different forms of modeling in risk management and simulation makes the discipline to have both features of science and art.
According to Samad-Khan, Rheinbay and Le Blevec, while there is an element of art and science in all modeling, many of the op risk models in use today are based on such arbitrary assumptions and unscientific methods that this pseudo-science (2006, P.6). As such, it can be argued that the application of modern risk analysis tools makes the risk management concept to have both features of science and art.
Finally, the concept of risk aggregation and integration support the fact that risk management is nether neither a science nor an art. Risk integration is considered a central step during operationalization of any organization risk management process. Studies conducted by Jing and Brockett, (2007), shed light on value created by risk integration as part of holistic management in corporations. As a both science and art based discipline it is imperative that risk managers have sufficient knowledge and skills necessary for risk integration as well as its quantitative and explorative features. Derivation of total risk distribution is a very sensible way of unification and differentiation of risks in a more methodological and measurable way, before proactive and incidental customized decisions is arrived at.
For instance, at the initial stages of the process, risk managers should start with individual risks which are commonly represented by specific distribution functions in a very technical way. Expertise and other management personnel can derive aggregate risk distribution for the whole corporation from these individual risks. Risk measure, a scientific process, should be developed so as to reflect the level of the aggregated risk.
During risk aggregation, risk distribution functions are classified (art based) into two parts namely the inter-relations between risks and marginal distributions for individual risks. Parametric and non-parametric models (scientific process) are used to identify marginal distributions in each individual risks. In order to capture the inter-relations among risks, risk managers and other expertise can employ simple approaches such as variance-covariance matrices, where correlations between the interrelated risks are calculated basing on the conjectured by the experts. Alternatively, risks managers can use structure simulation models when linking possible inter-related risks to ordinary dynamics. For example, macro and micro-economic conditions are the major drivers of different market risks and this can result in the interactions of market risks. The inter-relations among these market risks can be exploited by risk managers in order to determine natural edges and clear indicators of economic difficulties which would be probably brought about by striking of different types of risks when catastrophic events occurs.
Additionally, by applying both art and scientific managerial process in risk management, it is expected that an organizations strength areas will be enhanced as well as the effective ways through which its processes are carried out. In order to maintain operational excellence for long-term success, corporations should ensure that business operations are carried out effectively and efficiently and risks, which cannot be eliminated or transferred, reduced to irreducible minimum. The ever changing economic climate has necessitated for constant reviewing of risk management programs and these contrast with ancient management practices where such programs were reserved for extreme events and unforeseen circumstances. A hybrid risk management approach has become vital and permanent component of strategies used by corporations.
Conversely sound risk management strategies directly affect the long-term profitability and sustainability of business operations of a company. It touches many aspects of corporations i.e. it impacts customers service value and resiliency, it enables organizations management prepare for unexpected events such as pandemics and natural disasters. Corporations have established and working risk management programs which are used in management of numerous uncertainties in order to achieve long term resiliency. It is embedded into daily operations so as to equip every level of management to better manage risks, both scientifically and artistically, which interferes with effectiveness and efficiency of business operations. This is a strong point since risk management programs provide companies with solutions premeditated to transition firms capabilities to manage risks either tactically or strategically. They are designed to consolidate risks management efforts as way forward towards operational effectiveness and efficiency. Also, such hybrid approaches allow organizations to drive better resource allocation decisions.
This is achieved through alignment of the existing corporation strategies and risk appetite using scientific models and management theories and functions. Alignment of organizations risk management goals and risk appetitive directs virtually all activities to be conducted at the operational and executive level. Individual risks should therefore be identified and measured. Once risks have been identified, risk integration and prioritization is carried out so as to recognize their relative influences on performance.
The effects of risks should then assessed and communicated by the responsible management personnel or the risk managers using the hybrid system. As such sound and all round Risk Management approaches reduce the substantial resources that corporations often waste due to inadequate communication and cooperation under the traditional risk management framework. Furthermore, ERM increases capacity for the corporation to exploit new opportunities. In this way, application of both art and scientific concepts in risk management will have created real economic as well as value based benefits to the organizational stakeholders based on the apt risk identification, transfer, and minimization and or reduction strategies adopted which both universal and customized to suit certain needs.
There are persistent debates ragging on whether risk management is an art or science. For the past decades, often spirited art-versus-science debates have dominated numerous extensive bodies of literature on organizational management. An art-versus-science dialogue has flourished in administration of many business operations as well as in public administration. Risk management is very crucial in facilitating the exchange of information and expertise across various departments in organization. It is useful in generating ideas and promoting good practices among responsible personnel in the organization. The consequences of crude assessment of risks include loss of business, reputation and opportunities (Donald 2008, p.40).
However, among the scholars, there has been a longstanding debate as to whether or not risk management is a science or an art. While there have been divergent opinions in the issue, some quarters are of the opinion that risk management is both a science and an art. These arguments are specifically discussed below.
Risk management is an art not a science
The argument that risk management is neither science nor art has been subjected to a lot of debates. Science is a method or a technique of doing things. It is defined as the organized and systematic ways of gathering knowledge about certain event or the world and condensing the knowledge into testable ways and principles. Risk management is the identification, assessment and prioritization of risks. After prioritization of the risks, the management coordinates and economically applies the available resources to minimize, monitor and control the chances of occurrence and their impact upon occurrence. this is a strong argument is favor of risk management as an art based process, since such classifications require application of personal reasoning which cannot be supported scientifically or applied universally.
As an art based process, the main objective of risk management is to maximize the realization of opportunities in order to create share holders value. This represents an opportunity for the risk managers to put into place specific measures that are non structural to reap the returns from viable but risky markets that have been ignored by other players.
Real science has element of repeatability of the results of the preceding experiments or research. Project implementation requires substantially resources hence risk managers cannot repeat the process time and again. In order to maximize the realization of opportunities, risk managers have to undertake all the necessary risk management steps. Once the project has been implemented and risk management has been effected, it cannot be repeated once again. This is a weak point of risk management process that is art based in design and application as it does not permit organizational learning process. On the other hand, science and scientific findings are subject to universally accepted scales of measurement. Risk management is carried out differently by different organization because of the fact that the process is influenced by the environment within an organization is operating. As discussed above, the main objective of risk management is to maximize realization of opportunities and creation of share holder value. Risk management is not science in the sense that science discipline is directed towards stimulating new knowledge and new learning (Peroff 1999, p.1)
Risk management is far much different from science in the sense that the former follows specific approach. Unlike scientific methods used in discoveries, good risk management gives the risk manager reasons why they should implement it based on the real situations. The approach used in an effective risk management is based on how the world works. Normally, risk managers follow specific pattern in their work of minimizing risks in order to create shareholders value. Science is a body of knowledge about certain phenomena. Explorations and discoveries are not carried out in a particular pattern since most of them are based on what other people say or have said. In most cases, science involves running off and, doing what other people in the past have done. In risk management, risk managers and other experts have to adhere to several steps for the process to be effective.
As such, the outcome is very effective and thus augments the competitive edge of an organization based on its strengths of critical success areas.
Since science based approach to management is never falsifiable, it is nave to argue that risk management is a science. During implementation of major projects, risk experts are called upon to identify and assess the risks that are likely to be incurred. Some of the common risks that organizations are likely to face during execution of projects include risks of cost over-runs, inflations, natural catastrophes, failures of accountability, damage of reputation in the market among others. The risks may be operational such as disruption to supplies and operations. To critically manage this risks which are highly characterized by high degree of subjectivism and need for personal reasoning, it is not factual to argue that risk management is a science. According to Peroff, any science based research process is constructed specifically to be blown apart if proved wrong, and if so destined, the sooner the better (1999, p.92).
This differs from an art based management which is constructed on al lot of uncertainties and has rooms for personal decisions as well as contingencies. The existent uncertainties and contingencies in any organization however fuels the threats faced as there will be no one best way to manage a risk. Based on the dynamic nature of business today, it is critical as significant to note that one managerial decision may not work in a given environment but successfully generate positive results in another environment that is completely different in setting and business operational practices.
For example, in the management of interest rates risks, a risk manager will be concerned with the value of the cash deposit and floating debt. The interest rate risk usually occurs when there is a persistent change in the value of the bond. It may worsen when the bond value increases. The financial instruments are very sensitive on the overall profit of an organization. Increase on the rate of interest will adversely affect the overall organization profit (Smart Megginson 2008, p.259). If a science based approach is used, during high interest rates, the costs of debts will be high and the decision rule of thumb may that no external finance should be sought.
In aviation industry for instance, risks that may be faced in relation to international transactions may include such risks associated with debt settlement, fuel payments and also the capital expenditure (Michael et al 2005, p. 278). For example, British Airways is currently faced with the challenge of providing other form of security to the lenders and or minimizes the amount of borrowing (British Airways 2009, p1)
This represents the weakness element of the SWOT quadrant, if the risk management concept is viewed as a purely science based concept. However, application an art based management may call for use of various managerial approaches to mitigate and minimize the potential threats. The best strategy, in this case to manage this risk may be by signing forward contracts and also uses of loan renegotiation strategies.
Risks are probable that it will occur in the future and it will affect business economically. Risk identification does not involve following what other people have said because the process is affected by the business environment. In reference to risk identification, risk management sharply contrast with science. In science, some of the risks under study are less probable that they will occur in the future and are of less economic importance. Science involves discovering new ideas or information or using already formulated body of knowledge when responding to certain phenomenon. The quantities measured in science have natural characteristics. For example, exploring the whether or not human being can live in other planets. Use of these reasoning may be expose an entity to more threats since the evaluators may ignore the common facets of risk elements in a bid to make new discoveries that may not be possible. In risk management, not all risks to be identified have natural characteristics. Some are associated with human activities, for example, inflation and unemployment are attributed to global human activities.
In the past decades, there have been seemingly numerous reports on health problems from the global environment. Myriad announcements about air pollutions, water contamination, and hazardous waste sites have created a lot of concern in many organizations around the world about their impacts on the modern industries. Apparently, management of many business entities want to understand whether or not to the exposures to this chemicals threaten the health and the well being of employees which in turn affect business operations. Decisions made by the management concerning the effects of these environmental issues are commonly based on evidence from the staff exposed to these chemical substances in the workplace. In science, such decisions are based on evidenced obtained in animals under experiments with high concentrations in the laboratory. Risk managers have a duty to critically examine the occurrence of such health problems in the workplace, so that they can make rational decisions about the importance of reducing exposure or the effects of the hazards upon exposure. However, science lacks reliable means and techniques to measure these health risks especially when exposures are small.
However, Samad-Khan, Rheinbay and Le Blevec argue that any attempt to present risk management as either a science or a pseudo-science is misplaced as such act are giving operational risk modeling a bad name (2006, p.6). This contrasting argument is based on the fact that an art based process is characterized by a lot of prejudice which results into very huge variations in results obtained.
For example, under Enterprise Risk Management systems, to have astute risk identification process that facilitates successive risk prioritization and aggregation in order to achieve business goals within the organizational risk appetite, very many aspects of personal opinions are applied. There exists great deal of limitations in such scenarios resulting from the realities that management judgments involved in decision making might be faulty hence ineffective. It is vital that decisions made regarding particular risks and control establishment should incorporate relative costs and benefits. During this exercise, breakdowns can occur due to simple human errors or mistakes. In most cases, established controls are circumvented when two or more people collude hence overriding enterprise risk management decisions. These limitations preclude and contravene with the strategies aimed at achieving specified entitys objectives
Particularly, the events which interfere or believed to interfere with the attainment of corporations objectives are regarded as risks and suitably classified based on subjective factors as well as organizational specific factors. Additionally, since risk identification is a prerequisite for proper objective achievement, some of the key performance indicators used by corporations to describe business objectives include Return on Equity (ROE), operating income, Earning per Share (EPS), Risk Based Capital (RBC) and Risk Adjusted Return on Capital (RAROC). Through these performance measures, risks are recognized according to the strategic goals that have been laid down by the corporation. This is the first step of implementing sound ERM process (Malleret Cleary, 2007). However, all these performance indicators are not scientifically arrived at and can be calculated or arrived at differently by different evaluators. This may serve as a major point of weakness more if an extensive comparative analysis is not carried out. As such, risk management has been described as a non science based concept that is specific to an organization, place, period and environment
Unlike risk management, science, in the absence of ability to measure risks directly, does not offer direct and somewhat certain estimates.
Project implementation requires that risk managers and other management experts should be able to measure and determine the extent of risks directly so as to establish better ways of reducing their effects for the economic benefit of the whole business entity as well as the vulnerable in the society (Yodmani 2001, p.8). Estimates and project plans in risk management must be accurately and efficiently established. This calls for knowledge and skills which can be acquired through experience with similar areas. In most cases, it involves exposures to realm situations which cannot be learned very easily from books. Risk managers are brave enough to face challenges during implementation of particular projects as they possess sufficient knowledge to counterattack their effects. In risk management, experts and other organizational management should be able to track the actual outcome verses the estimates. These serve as a both show of strength and ability to identify and make use of the available opportunities in the market. Effort, however, must be tracked throughout the processes of project implementation.
In science, hypothesis used to test the effects of certain events or specific substances are qualitative in nature. For instances, biological data on health hazards suggests that any exposure to toxic substances may pose health risks to the public. Scientists consider a qualitative response to particular risks as the bets option even in the face of impressive scientific advances. Ideally, the increased recognition of that further emergence of the health problems due to more chemical waste in the natural environment is overly simplistic and does not provide adequate basis for organizational decision-making. Quantitative risk assessment methods employed in risk management are very attractive because it allows risk managers and other decision-makers to discriminate between important and trivial threats (Cookie 2009, p., 1).
Risks undoubtedly exist, and their consequences can be easily quantified. For example, terrorisms and other forms of violent attacks usually occur around the world. As part of risk management, actuaries can have a stab at the monetary value of the assets destroyed and the value of the business lost. Risk management requires prudence during assessment and quantification in monetary value the economic hack after such mystery. Since these risks can be quantified in monetary value, organizations are able to set up contingency plans in anticipation of the occurrence of these risks. Science analyzes impacts of terrorism on the future generation. It does not stab the monetary value of the people injured as in risk management hence resulting in a lot of difficulties in deciding the units of measurement to be used in measuring how it pervades the daily life of individuals.
Risk management is based on instinct intuition and experience. Risk management is evident in human daily lives. For example, before one crosses the road, they have to predict the risks basing on judgment. Organizations implement programs considering the possible risks to be incurred in reference to the past experience. Organizations faces a lot of risks in all business operations hence this enables them to predict in advance the possible danger of doing specific business activity. Science involves observation of phenomena and measuring the subject of inquiry. The observations are then theoretically or hypothetically explained basing on their measurements. In risk management, experts just investigate on the possible occurrence of suspected risks but no observations are made. During project implementation, risk managers have to review past events so as to calculate possible impact of particular risks on the economic status of the organization. For example, a project which requires advent technology might be considered disastrous to the organization because of it might be obsolete. Basing on the economic environment, risk managers might conclude it as one of the risks that is likely to affect financial status of the organization if it becomes obsolete.
Notably, in adherence to the stated objectives, risk management can be practically managed by business entities. The risks involve in implementing a particular project can be eradicated through interventions. Risk managers have control over risk management techniques hence can be changed at any time to when need be. Even though, risk management follows specified procedures, managers or employees are able to hinder the occurrence of particular risks in the course of their work. In the practical realm of risk management, business entities can manage risks in order to achieve specified objectives. If in the course of executing a particular project, the management realizes that the methods of counterattacking the risks speculated, then it can set up new strategies which can protect the organization from economic impacts of the risks. However, science cannot be manipulated because of the fact that it is a body of knowledge based discipline a major weakness of the argument that risk management is science oriented.
Managing an organization involves no particular formula and it is impossible to achieve same ends time and again. Different risks are managed using different risk management techniques. For example, if risk managers have identified that floods and accidents are some of the risks which might be incurred during implementation of a major project, then it has to set up different plans so as to counterattack the effects. The methods that will be used to reduce the economic impacts of the accident will be quite different from those used in managing floods. Risk managers use different formulas to manage different risks and different results will be realized depending on the severity and the frequency of the risks. Such capability to manipulate and customize risk management, as an art, serves as a major strength of the concept. Art based management is too subjective hence can be easily predicted. If risk management was a science, it would suggest specific formula for management and that same ends can be achieved time and again. For along time, risk management was regarded an activity which involves application of the conclusions and inferences of relevant qualitative sciences.
Currently, it is increasingly appreciated that management of risks in organization require substantial skills and knowledge of leadership and governance. Business and moral ethics have to be adhered to during project implementation. It is mandatory that risk managers possess these qualities and should be driven by the objectives of the organization. Scientific research and studies are not commonly bound by any organizational objectives. Post-normal science lacks inevitable sorts of uncertainty and value-commitments which are necessary during decision making by organizational management. The ingredients of science should be complemented by other risk management considerations which are commonly derived from organizational policy aspects. Science analyzes what the society and the whole is likely to face in the event of rapidity and complexity of the universe. Risk management tends to modify how an organization will cope up with the changes of all sorts of that occur in the global economic environment. Unresolved debates in science has no much impact on the human lives but lack of trust and governance among the risk management amounts to a lot economic problems which can lead to economic stagflations (De Marchi Ravetzb 1999, p.2).
Science in itself cannot provide all that is necessary for decision making on risk issues during project implementations. Science encourages union of views, ideas and opinions of various people thought to have relevant scientific knowledge. In major scientific events, dialogue between different agents from both society and government is encouraged. For instances, the work of American Association for the Advancement of Science has been subject to views and opinions from different parties around the world. Experience researchers are encouraged to fully participate in exploration of more unique features around the world. In the event of dialogue, opinions of others might dominate hence exploration process is done following the ideas of the dominant people.
Organizations risk management techniques are not supposed to be exposed to either public or any other person who is not relevant in the organizational management. Risk managers and other relevant experts contribute on how to effectively manage risks in the organization and the ideas are opinions are critically analyzed from different perspectives. Risk managers should not exclude or neglect contributions from different parties to the risk management process and project implementation. Communication and trust is very crucial hence treating others with incomprehension or disdain paralyzes risk management activities (De Marchi Ravetzb 1999, p.2).
The popular imaginations and perceptions that science is very complex are not true. Rocket science is one of the totemic example of scientific complexity which has been subjected to great deal of arguments by most leading academic experts on whether the if the discipline is far much more complex than risk management. Scientists studying turbulence do not go much deeper to examine some of the virtual risks associated with the phenomenon. Risk managers must, however, deal not only with risks that are revealed through science, but also critically analyze virtual risks i.e. risks where science discipline is inclusive. It is a matter of fact that everyone now has a duty of care in identifying all the possible risks which they might come across in their daily lives.
Furthermore, they should demonstrate that they possible relevant skills and knowledge to control them. From organizational context, projects implementation calls upon risk managers and other top management to be careful in responding to possible risks. The affluent global economy is drowning in risks management. Science does not involve every body as this is only undertaken by people who wish and have ambitions of exploring more about something. Risk management is a business tool for creating shareholders value whereas science involves using of scientific methods to test particular actions. Furthermore, science involves giving a rational explanation about observed phenomena. Risk management does not undergo rigors of peer review hence it is not a science.
Risk Management Is a Science Not an Art
Based on the fundamental tenets of the discipline, some researchers are of the opinion that risk management as any other management function in the administration of business is a science. However, this claim can only be deduced from an analytical review and understanding of the recent developments in risk management. In the ancient days before the advent of new technologies and effective methods of management, management of risks was done basing on the historical precedence as opposed to investigative approach used in the modern days. The traditional risk management was characterized by reporting of cases with great emphasis on the historical precedence. Without critical analysis, corporations embrace IT in their operations resulting to unnecessary investment in systems infrastructure.
The traditional risks management, such as incorporation of IT to counterattack major suspects such as external hackers has led to overly burdensome security restrictions which affects daily business operations. Today however, such tools as Enterprise Risk Management systems which view risks comprehensively by using root because approach is applied. Through this approach, management is able to analyze risks from all perspectives (John 2004, p.100). Large retail corporations have adopted ERM as a tool for assessing the feasibility of taking broader approach to management of entire organizational risks so as to develop effective future strategies. Evaluation of hazard risks in conjunction with financial risks programs and strategies have been carried out effectively using concepts of ERM. Chief Financial Officers are obliged to identify appropriate methods of managing risks identified on a collective basis. Within ERM framework, can easily identify and report on effective processes to deal with risks identified.
Evidently, the use of modern technologies in risk management implies that the concept is largely science based. Significantly, Peroff argues that any managerial aspect of science if done correctly, can enhance good managerial skills and also advise the risk manager in all of the day-to-day decisions and actions (1999, p.92).
Any science based discipline as opposed to an art subject requires use of both qualitative and quantitative data that is statistically collected, collated, analyzed and inferences drawn from. Specifically, any science based research requires that the data the data collected is duly interpreted and related to an existing theory or valid theories through deductive and non deductive reasoning. In relation to risk management, it can be argued that the process is not an art but a science based subject that requires scientific data collection and analysis from which inferences are drawn. Further, the emergent rules in risk management require that the risk managers be able to group the data, and communicate the findings upon the scientific analysis processes using such tools as Information Technology. As a matter of fact, in most corporations today, the technical aspects of risk management are given extensive attention through application of modern data collection, analysis, and interpretation and communication tools.
However, there is bound to be some weaknesses and threats as regards the reliability of the data that is scientifically analyzed and interpreted per se. This weakness of the scientific data analysis is based on possibility of unreliability of data as well as threats to internal validity of analyses which can be reduced through subjective processes.
Statistical analysis has been adopted as a powerful methodology during risks management. This methodology is only effective when the risk managers are capable of accessing adequate amount of relevant data. In most cases, this is not true hence posing a lot of difficulties. Statistical analysis requires actuaries and managerial accountants who can project future sales and financial outcomes. Many organizations however do not avail sufficient data reliable to create statistically valid inferences. Additionally, the ever changing business environments renders past data invalid for projecting future outcomes
It is important to understand the fact that in such cases, risk management strategy adopted should not be narrowed down to addresses the tons of numbers and the stacks of risk reports or data collected. At the same time, risk management can only be successful if the risk reports are effectively communicated from the top management to operational units. This should be done using properly designed risk reporting systems and they should provide succinct summaries of the essential risk information.
Peroff argues that any science process involves the expansion of sensory capacity by instruments, the classification of data, and the interpretation of data guided by theory (1999, p.92). Similarly, as a science based process, it is critical that the uncovered information include broad range of corporate risks and also allow those responsible for the risks at the operational level to access more detailed information about the risks. Under this stage of risk management implementation, software for both qualitative and quantitative analysis of the risks should be developed. One of the common software used is dashboard, an interface which provides role based information to the responsible persons at the operational level. Risk register is useful software when reporting and managing risks. This software records vital information including impacts of risks on key performance indicators, risks assessments, risk management tools and responsible management personnel (Jing Brockett, 2007, p.1).
Risk management is a systematic and logical process that is repeatable and verifiable. As such, it qualifies to be a science based discipline as espoused in its features and methodological application according to Peroff any science discipline or learning process is marked by differed diagnostic features. These features include the repeatability of nature of the research results, preferably by independent investigators, possibility to report the research as simply and elegantly as possible, the outcome of the study must not only be universally accepted but also show unambiguous scales of measurement (1999, p.93). further, as shown by the scientific aspects of the risk management process, it is imperative that the process leads to stimulation of new learning processes and enhance development of new knowledge apart from being very consilient and consistent.
This aspect is the core of risk management in many corporations. Systematically, in many entities today, integration of risks does not involve mere stacking of all risks together, but rather a systematic approach that is science oriented. It is a procedure of fully recognizing the relationships between risks and prioritizing on them so as to create true economic value to the shareholders and other stakeholders as well as ensuring that there is compliance with the laws and organizational control (Bonoan 2007, p.1 Chapman, 2007, p.1).
Risk Management is neither a Science nor an Art
In conclusion, from the above analyses, it is evident that risk management has both elements of both science and art disciplines. As such, it is critical to note that risks management is neither a science nor an art but a combination of the two disciplines. As such it is a pseudo-science a pseudo-art. The conclusion is based on the fact that the subject has both elements of statistical measurements from which inferences are drawn. However, there are many assumptions and subjectivism that underlie the concepts just as any other art subject discipline. Most often, the application of different forms of modeling in risk management and simulation makes the discipline to have both features of science and art.
According to Samad-Khan, Rheinbay and Le Blevec, while there is an element of art and science in all modeling, many of the op risk models in use today are based on such arbitrary assumptions and unscientific methods that this pseudo-science (2006, P.6). As such, it can be argued that the application of modern risk analysis tools makes the risk management concept to have both features of science and art.
Finally, the concept of risk aggregation and integration support the fact that risk management is nether neither a science nor an art. Risk integration is considered a central step during operationalization of any organization risk management process. Studies conducted by Jing and Brockett, (2007), shed light on value created by risk integration as part of holistic management in corporations. As a both science and art based discipline it is imperative that risk managers have sufficient knowledge and skills necessary for risk integration as well as its quantitative and explorative features. Derivation of total risk distribution is a very sensible way of unification and differentiation of risks in a more methodological and measurable way, before proactive and incidental customized decisions is arrived at.
For instance, at the initial stages of the process, risk managers should start with individual risks which are commonly represented by specific distribution functions in a very technical way. Expertise and other management personnel can derive aggregate risk distribution for the whole corporation from these individual risks. Risk measure, a scientific process, should be developed so as to reflect the level of the aggregated risk.
During risk aggregation, risk distribution functions are classified (art based) into two parts namely the inter-relations between risks and marginal distributions for individual risks. Parametric and non-parametric models (scientific process) are used to identify marginal distributions in each individual risks. In order to capture the inter-relations among risks, risk managers and other expertise can employ simple approaches such as variance-covariance matrices, where correlations between the interrelated risks are calculated basing on the conjectured by the experts. Alternatively, risks managers can use structure simulation models when linking possible inter-related risks to ordinary dynamics. For example, macro and micro-economic conditions are the major drivers of different market risks and this can result in the interactions of market risks. The inter-relations among these market risks can be exploited by risk managers in order to determine natural edges and clear indicators of economic difficulties which would be probably brought about by striking of different types of risks when catastrophic events occurs.
Additionally, by applying both art and scientific managerial process in risk management, it is expected that an organizations strength areas will be enhanced as well as the effective ways through which its processes are carried out. In order to maintain operational excellence for long-term success, corporations should ensure that business operations are carried out effectively and efficiently and risks, which cannot be eliminated or transferred, reduced to irreducible minimum. The ever changing economic climate has necessitated for constant reviewing of risk management programs and these contrast with ancient management practices where such programs were reserved for extreme events and unforeseen circumstances. A hybrid risk management approach has become vital and permanent component of strategies used by corporations.
Conversely sound risk management strategies directly affect the long-term profitability and sustainability of business operations of a company. It touches many aspects of corporations i.e. it impacts customers service value and resiliency, it enables organizations management prepare for unexpected events such as pandemics and natural disasters. Corporations have established and working risk management programs which are used in management of numerous uncertainties in order to achieve long term resiliency. It is embedded into daily operations so as to equip every level of management to better manage risks, both scientifically and artistically, which interferes with effectiveness and efficiency of business operations. This is a strong point since risk management programs provide companies with solutions premeditated to transition firms capabilities to manage risks either tactically or strategically. They are designed to consolidate risks management efforts as way forward towards operational effectiveness and efficiency. Also, such hybrid approaches allow organizations to drive better resource allocation decisions.
This is achieved through alignment of the existing corporation strategies and risk appetite using scientific models and management theories and functions. Alignment of organizations risk management goals and risk appetitive directs virtually all activities to be conducted at the operational and executive level. Individual risks should therefore be identified and measured. Once risks have been identified, risk integration and prioritization is carried out so as to recognize their relative influences on performance.
The effects of risks should then assessed and communicated by the responsible management personnel or the risk managers using the hybrid system. As such sound and all round Risk Management approaches reduce the substantial resources that corporations often waste due to inadequate communication and cooperation under the traditional risk management framework. Furthermore, ERM increases capacity for the corporation to exploit new opportunities. In this way, application of both art and scientific concepts in risk management will have created real economic as well as value based benefits to the organizational stakeholders based on the apt risk identification, transfer, and minimization and or reduction strategies adopted which both universal and customized to suit certain needs.
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