Managing Risk for Development
The World Bank has finally declared that the international community must focus on risk management./world development report
Five key insights on the process of risk management :
1. Taking on risks is necessary to pursue opportunities
for development. The risk of inaction may well be the
worst option of all.
2. To confront risk successfully, it is essential to shift from
unplanned and ad hoc responses when crises occur to
proactive, systematic, and integrated risk management.
3. Identifying risks is not enough: the trade-offs and
obstacles to risk management must also be identified,
prioritized, and addressed through private and public
4. For risks beyond the means of individuals to handle
alone, risk management requires shared action and
responsibility at different levels of society, from the
household to the international community.
5. Governments have a critical role in managing systemic
risks, providing an enabling environment for shared
action and responsibility, and channeling direct support
to vulnerable people.
Likewise, better insurance and protection
can make coping less difficult and costly.
The benefits of preparing for risk outweigh the
Crises and losses from mismanaged risks are costly, but so are
the measures required to better prepare for risks. So, does preparation pay off? Evidence suggests that the benefits can outweigh the costs—sometimes overwhelmingly so. For example,
mineral supplements designed to reduce malnutrition and related
health risks may yield benefits at least 15 times greater
than the costs.
Risk management also requires evaluating different risks and
the relative need of preparing for each. Given limited resources,
setting priorities and making choices is both unavoidable and
necessary. For instance, a small country prone to torrential rains
and also exposed to international financial shocks must decide
how much to spend on flood prevention and how much to save
to cushion against financial volatility.
Not only trade-offs must be considered, but also synergies.
“Win-win” situations can both diminish risk (the possibility
of loss) and increase potential benefits. Prime examples
are investments in nutrition and preventive health; improvements
in the business environment; and disciplined monetary
and fiscal policies. Such synergies are widespread and
should be emphasized—which is not to say they are costless
or easy to implement.
People and societies struggle to manage risk
If risk management can have positive impacts and is cost effective,
then why aren’t people and societies better at manag-
ing risk? The specific answer varies from case to case, but is
always related to the obstacles and constraints facing individuals
and societies, including lack of resources and information,
cognitive and behavioral failures, missing markets and public
goods, and social and economic externalities
The interlinked components of risk management
To understand shocks,internal and external conditions, and
potential outcomes, thus reducing uncertainty.
To recover from losses and make the most of benefits
To transfer resources across people and over
time, from good to bad states of nature
To reduce the probability and size of losses and increase those of benefits
This realization leads to an important message. Identifying risks is not enough: the obstacles to risk management must also be identified, prioritized, and addressed through private and public action.
An holistic approach to managing risk
Individuals’ own efforts are essential for managing risk, but
their success will be limited without a supportive environment. Most individuals are inherently ill-equipped to confront
large shocks (such as the head of a household falling ill),
systemic shocks (such as a natural hazard or a financial crisis),
or multiple shocks (such as a drought followed by a food
price shock). In such cases, risk management requires shared
action and responsibility at different levels of society, from the
household to the international community. These social and
economic systems can support people’s risk management in
different yet complementary ways.
• The household is the primary instance of support, pooling
resources, protecting its members—especially the vulnerable—
and allowing them to invest in their future.
• Communities provide informal networks of insurance and
protection, helping people deal with idiosyncratic risks and
pooling resources to confront common risks.
• Enterprises can help absorb shocks and exploit the opportunity
side of risk, contributing to more stable employment,
growing income, and greater innovation and productivity.
• The financial system can offer useful risk management tools
such as savings, insurance, and credit, while managing its
own risks responsibly.
• The state has the scale to manage systemic risks at the national
and regional levels, to provide an enabling environment
for the other systems to function, and to provide direct
support to vulnerable people. These roles can be achieved
through social protection (insurance and assistance), public
goods (national defense, infrastructure, law and order), and
public policy (regulation, macroeconomic management).
• The international community can offer expertise, facilitate
policy coordination, and pool resources when risks exceed national
capacity or cross national and generational boundaries.
These systems interact, often complementing and sometimes
substituting for each other’s risk management functions.
For instance, enterprises rely on macroeconomic stability, public
services, and financial products to remain dynamic and continue
to provide income and employment to people. The financial
system can provide tools of insurance, saving, and credit
only if enough households and enterprises are able to partici
pate in the system and the economy features a certain degree of
stability and predictability. Markets, in general, can provide risk
management tools and resources at a growing scale only if the
necessary public services, such as the rule of law and a sound
regulatory framework, are in place.
Mainstreaming risk management into
The World Development Report 2014 offers dozens of specific
policy recommendations to improve risk management at various
levels of society. Its overarching advice, however, is
that these recommendations should be implemented in a proactive,
systematic, and integrated way to optimize their effectiveness.
For this purpose, it advocates that countries establish
a national risk board, which can help mainstream risk management
into the development agenda. This could be a new
agency or come from reform of existing bodies: what is most
important is a change in approach—one that moves toward a
coordinated and systematic assessment of risks at the national
and even international levels. Implementing this recommendation
may require a substantial change in the way governments
develop and implement their general plans, considering
change and uncertainty as fundamental characteristics of
Five principles of public action for better risk
Analysis throughout the WDR 2014 suggests that the public
action essential to supporting people’s risk management can
usefully be guided by some key principles.
A few facts about risk and risk management from around the world
Despite some progress, many people remain vulnerable:
• More than 20 percent of people in developing countries live on less
than $1.25 a day, and nearly 75 percent on less than $4.00.
• 70 percent of people in developing countries do not use formal
• Over 70 percent of the labor force in
South Asia and Sub-Saharan
• People living in fragile and conflict-affected countries made up 15 percent of the world population, and one-third of people living in extreme poverty in 2010.
When risk is mismanaged, crises ensue:
• More people die from drought in
Africa than from any other natural hazard,
whereas virtually no one has died from drought in
developed countries in the past four decades.
• The mortality rate from illness and injury for children under age
five is almost 20 times higher in low-income countries than in high income countries.
• 147 banking crises struck 116 countries from 1970 to 2011: the average
cumulative loss of output during the first three years of crises
in emerging markets was 26 percent.
• During 2011–12, the famine in
claimed 258,000 lives, Somalia
despite 11 months of repeated warnings; opportunities for early
intervention were missed by the donor community to avoid political and security risks.
Effective risk management can improve resilience to negative shocks and the ability to take advantage of positive shocks:
• Between 1990 and 2010, the share of people in developing countries with access to improved sanitation increased from 36 to 56 percent, while the immunization rate for measles doubled. Infant and maternal mortality fell by more than 40 percent.
• Farmers in
Ghana and —among other countries—who
rainfall insurance have increased their investments in fertilizer,
seeds, and other inputs.
• Whereas a decade ago most developing countries suffered from
a pro-cyclical bias, now more than one-third of them conduct
recession-reducing countercyclical macroeconomic policies.
Do not generate uncertainty or unnecessary risks
The state should strive to lessen uncertainty and reduce risks—
or, at minimum, not worsen them. Why or how would a government do that? First, it may perpetuate social norms that
discriminate against certain groups, such as women or ethnic
groups, making them more vulnerable. Second, it may favor
the group that supports it politically against the legitimate interests
of others. Third, a government that is internally fragmented
and disorganized may adopt ambivalent policies or
implement policies ineffectively. Finally, the government may
be guided by ideology, wishful thinking, or simple desperation
when confronting difficult problems, instead of relying on
measures based on good evidence and analysis.
Provide the right incentives for people and institutions
to do their own planning and preparation, while avoiding
imposing risks or losses on others
The right incentives are critical to avoid cases in which some
benefit at the expense of others. Bailouts should be avoided,
but if they occur, they should be designed to prevent providing
the wrong incentives.
experience after the 2000–01 Turkey
banking crisis (and especially the unwavering stance of the
country’s bank regulatory agencies) offers a prime example.
Social protection can be criticized for not encouraging selfreliance
and posing an unsustainable burden on the state.
These problems can be avoided by a design that takes people’s
incentives directly into account. Well-designed safety nets—
such as conditional cash transfers or workfare programs in
household practices in education, health, and entrepreneurship,
while remaining fiscally sustainable. Two changes in
people’s mindset related to individual and social responsibility
are critical for effective risk management: moving from dependency to self-reliance, and from isolation to cooperation.
Providing the right incentives can contribute in both regards.
Keep a long-run perspective for risk management
by building institutional mechanisms that transcend
Institutional mechanisms are needed that induce the state
to keep a long-run perspective that outlasts volatile shifts in
public opinion or political alliances. For instance, the state’s
provision of health services must be funded on a continuous
and sustainable basis to succeed.
Thailand and offer Turkey
successful examples with their recent shift to universal health
insurance programs. The financial system must strike the
right balance between inclusion and stability. In
central bank, the finance ministry, and the private sector are
preparing a long-run strategy for the financial sector. Countercyclical monetary and fiscal policies also require a long-run perspective. To this effect,
Colombia, and have Norway
been targeting a long-run budget balance.
Promote flexibility within a clear and predictable
Flexibility in adjusting to new circumstances is essential to
promoting resilience and seizing opportunities.
Selected policy recommendations from the WDR 2014
For the household:
• Public health insurance, run in partnership with the private sector,
with emphasis on preventive care and treatment of contagious
diseases and accidents
• Public education, run in partnership with the private sector, with
focus on flexible skills, adaptable to changing labor markets
• Targeted safety nets for the poor, for instance, conditional cash
transfers with payments directly to women
• Enforceable laws against domestic abuse and gender discrimination
For the community:
• Public infrastructure for the mitigation of disaster risks, built in consultation with surrounding communities
• Transportation and communication infrastructure, especially to
integrate and consolidate isolated communities
• Police protection against common and organized crime, especially targeted to communities under threat
• Enforceable laws against racial or ethnic discrimination
For the enterprise sector:
• Secure and respected private property rights
• Streamlined and predictable regulations for taxation, labor markets, and entry and exit of firms
• Enforceable regulations for workplace safety, consumer protection, and environmental preservation
• Consider the possibility of delinking social insurance (that is, health insurance and old-age pension) from work status
For the financial system:
• Sound financial infrastructure (payment systems, credit information) to facilitate financial inclusion and depth
• Enforceable regulations that foster both consumer protection and
competition among financial institutions
• Macroprudential regulation, for the financial system as a whole, to lessen financial crises and avoid bailouts
• A national financial strategy that addresses trade-offs between
financial inclusion, depth, and stability
For the macroeconomy:
• Transparent and credible monetary policy, oriented to price stability and conducted by an autonomous central bank
• For the majority of countries, a flexible exchange rate regime, in a context of transparent and credible monetary policy
• Countercyclical and sustainable fiscal policy, aided by an independent fiscal council
• Provision for contingent liabilities, such as natural disasters, financial crises, and pensions of an aging population
For the international community:
• Engagement in bilateral, regional, and global agreements to share
risks across countries, enhance national capacity, and confront
common risks, favoring proactive and coordinated interventions
• For elusive global risks, such as climate change, formation of a
“coalition of the willing” with like-minded country governments,
creating incentives for other countries to join in.
economic trends, and innovation by enterprises in the face of
technological and demand shocks. A challenge for the state is
to promote flexibility while preserving a sensible, transparent,
and predictable institutional structure. For enterprises,
the Danish model of “flexicurity” offers such balance, combining
labor market flexibility alongside a strong social safety
net and reemployment policies. For the macroeconomy, inflation
targeting regimes with floating exchange rates offer
a good model of flexible yet institutionally sound monetary
Protect the vulnerable, while encouraging self-reliance
and preserving fiscal sustainability
For households that remain highly vulnerable to shocks, the
state can provide safety nets. These are possible even in lowincome countries, provided the support is clearly targeted to
vulnerable populations and is designed to encourage work effort.
of households from food insecurity while investing in community
assets. The international community can also provide
resources and expertise to vulnerable populations. Although
much criticized, foreign aid has been successful when provided
in coordination with accountable local institutions, as
after the 2004 tsunami.
Effective risk Indonesia
management, by promoting sustained growth, can lessen vulnerability and help eliminate extreme poverty.