Risk management aims to control the damages and financial consequences of threatening events.
Life is full of uncertainties. A person, who is happy, healthy and alive today, does not know what will happen tomorrow. Uncertainties translate into risks.
How can Risk be managed?
While risks cannot be eliminated, measures can be taken to reduce the probability and size of loss caused by risks. This process is known as risk management.
A) Risk Control:
Risk Control is the method that seeks to reduce or minimise the risk of loss. It consists of risk avoidance and risk reduction.
- Risk Avoidance is the elimination of hazards, activities and exposures that can negatively affect, in simple words it means not performing any activity that may carry risk.
Example: Parents are worried that their children may get injured as a result of cycling on the road; they can avoid the risk by ensuring that their children do not cycle on the road. - Risk Reduction is a risk management technique that involves reducing the consequences of a loss. This encompasses a whole range of things including reducing the severity of a loss, reducing its frequency, or making it less likely to occur overall.
Example: Parents find that it is not possible to prevent their children from cycling on the road in view of their obstinacy; they can impose a rule that their children wear helmets and safety pads when cycling. This will reduce the chances of their children being injured.
B) Risk Financing:
Risk financing is a technique where the loss arising from the risk is absorbed or transferred to someone. There are two ways of risk financing i.e. risk retention & risk transfer.
- Risk Retention is the practice of setting up a self-insurance reserve fund to pay for losses as they occur, rather than shifting the risk to an insurer or using hedging instruments.
Example: The risk of suffering from common cold can be retained. As a general rule, risks that should be retained are those that lead to relatively small certain losses. - Risk Transfer can be defined as a mechanism of risk management that involves the transfer of future risks from one person to another, and one of the most common examples of risk management is purchasing insurance where the risk of an individual or a company is transferred to a third party i.e. Insurance company.
Appropriate Risk Management Strategy
Frequency of Event | Severity of Financial Loss | Risk Management |
Low | High | Risk Transfer |
High | High | Risk Avoidance |
Low | Low | Risk Retention |
High | Low | Risk Reduction |
One comment
Laxmikant Nimkar
April 24, 2021 at 10:03 am
Very relevant in current situation.