The Hazards of Expert Control

Chief Risk Officers and Risky Derivatives

Bibliographic Data

ID4522072
AuthorsKim Pernell (0000-0002-4324-5898, University of Toronto, corresponding author), J Jung (0000-0002-9784-1206, University of Illinois Urbana-Champaign), Frank Dobbins, Frank Dobbin (Harvard University)
Year2017
Volume82
Issue3
Pages511-541
Publication date2017-06-01
Peer ReviewedYes
Open AccessYes
TypeARTICLE
VenueAmerican Sociological Review (JOURNAL)
Journal identifiersISSN: 0003-1224 • E-ISSN: 1939-8271
PublisherSAGE Publications Inc (PUBLISHER)
DOI10.1177/0003122417701115
OpenAlexW2618736107
LanguageEN
Citations received18
References cited65

At the turn of the century, regulators introduced policies to control bank risk-taking. Many banks appointed chief risk officers (CROs), yet bank holdings of new, complex, and untested financial derivatives subsequently soared. Why did banks expand use of new derivatives? We suggest that CROs encouraged the rise of new derivatives in two ways. First, we build on institutional arguments about the expert construction of compliance, suggesting that risk experts arrived with an agenda of maximizing risk-adjusted returns, which led them to favor the derivatives. Second, we build on moral licensing arguments to suggest that bank appointment of CROs induced "organizational licensing," leading trading-desk managers to reduce policing of their own risky behavior. We further argue that CEOs and fund managers bolstered or restrained derivatives use depending on their financial interests. We predict that CEOs favored new derivatives when their compensation rewarded risk-taking, but that both CEOs and fund managers opposed new derivatives when they held large illiquid stakes in banks. We test these predictions using data on derivatives holdings of 157 large banks between 1995 and 2010

Actuarial science · Business · Compensation (psychology · Compliance (psychology · Control (management · Desk · Economics · Management · Political science · Risk management · Auditing, Earnings Management, Governance · Banking stability, regulation, efficiency · Corporate Finance and Governance · Finance · Law · Psychology · Social Psychology

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