The question that inevitably follows the emergence of a crisis in banking and financial systems such as the current one is as simple as
it is obvious - how did this happen? How did the people who are meant
to be masters of risk management get it so catastrophically wrong and
drag global financial systems to the brink?
How was it that some of the most respected long-standing names of the
financial world, like Lehman Brothers, could fall in a heap almost
overnight, brought down by millions of sub-prime mortgages that
everyone now concedes should never have been written in the first
There's no single reason. It's now painfully obvious that financial
institutions took enormous risks. Regulation of the financial sector
was lacking, especially in the United States. But it's also clear that
alarm bells, which were supposed to be part and parcel of the system,
Technology designed to prevent crisis failed to fire and - as is often
the case - those failures resulted from management rather than the
systems themselves. Rules were bypassed and data fudged as people did
things well outside what they should have been allowed to do.
Part of the problem was the extreme complexity of some of the
financial instruments that were being traded. What had been simple, if
risky, residential mortgages were bundled up, on-sold, and sliced and
diced. The risks were obscured by the intricate financial instruments
and a web of transactions. A number of reports have shown that some of
the traded securities were so complex, alarms were not sounded simply
because authorities didn't know what they were dealing with.
But it also appears that, riding what seemed like an unstoppable wave
of growth, many financial institutions didn't want alarm bells to
ring, lest they spoil the party. Saul Hansell wrote in The New York
Times that some people on Wall Street "continued to trade complex
securities concocted by their most creative bankers even though their
risk-management systems weren't able to understand the details of what
Traders sliced up extremely complex securities, he says, and pumped
them into systems as though they were simple bonds - a little bit of
corner cutting that no one noticed while the good times rolled. "But
once the mortgage market started to deteriorate, the computers were
not able to identify all the parts of the portfolio that might be
hurt," he wrote. Wall Street essentially lied to its systems, he says.
It was revealed in March that lenders at US bank JPMorgan Chase had
been using a "cheats and tricks" sheet to fudge entries in the bank's
Zippy automated mortgage processing system. With a barely noticeable
change here and there - like bumping up a borrower's salary by as
little as $US500 ($749) - lenders could write new mortgages for people
that the business rules said shouldn't be getting one. System
safeguards were bypassed simply by doing enough to get the borrower
over the line.
But the biggest warning that things were amiss came in January - and
not from Wall Street, but from the La Defense financial district of
Paris. Société Générale trader Jérôme Kerviel was found to have
exceeded his trading limit, and his superiors duly investigated. What
they uncovered was horrific. Not only had Kerviel gone out on a limb,
but by taking on an astonishing €50 billion ($96 billion) in
unauthorised positions over the past year he had taken the European
financial system out with him.
Kerviel covered his tracks using systems access privileges gained in
more lowly positions and concocted a labyrinth of fake transactions
and emails. But he told police after his arrest his position would
have been uncovered earlier had anyone bothered to look properly. Poor
controls and procedures, combined with his own deceit, meant Kerviel
was able to operate light years beyond his limited authority.
Managing director of S2 Intelligence Bruce McCabe says the
complexity of modern banking systems and the speed at which they
operate makes them increasingly difficult to police. "The key word
here is complexity," he says. "If you're looking at it from a bank
perspective, securing yourself against these sorts of situations is
getting harder and harder, because of the complexity of the systems
In today's hothouse market, trading problems are amplified. Automation
and the need to trade as quickly as possible have had an impact on the
ability of information chiefs to patrol the use of their systems,
"We're able to do more transactions, very quickly," he says. "Computer
systems are enabling the faster transfers. In particular that
manifests itself in trading.
"They're in the business of decreasing execution time and reducing
latency, in particular, latency responding to the market. There's a
world of technology being invested in to execute trades automatically.
These are based on textual news feeds, on mining live CNN news feeds,
because the first trade is more important than the best trade. It's
more about reacting faster than others."
Technology is changing the way people look at markets, McCabe says.
"There's actually a lot of debate in computer science circles about
financial markets growing more chaotic."
It's not only banks that have faced problems. At all levels of
government, access control is a seemingly never-ending issue.
Auditors-general's reports into the information technology systems of
government departments and agencies routinely give public servants a
hiding for failing to implement better access controls.
In January, Victoria's auditors became fed up with continuing
access-control problems. In a report to parliament, they pointed out
that even though problems had been identified, no one was fixing them.
Their frustration was obvious.
"Many of the weaknesses identified during this audit cycle have been
previously identified and reported, either specifically to the
management of each agency, or generally through this report," they
said. "It is disappointing, therefore, that these weaknesses remain,
particularly given the potential exposures that can arise from poor
security, poor change-management practices and poor continuity
The Australian Financial Review recently reported that in the 2007-08
financial year, the Australian Taxation Office, Centrelink and the
federal Child Support Agency reported 140 instances of "browsing"
(unauthorised internal access to private and personal information),
leading to 17 resignations at Centrelink and five dismissals at the
Tax Office. Several matters were referred to the Commonwealth Director
of Public Prosecutions.
Former chief information security officer for the Commonwealth Bank,
Sarv Girn, says the founding principles of control were put in place
more than 30 years ago. "Principles on access rights and management
really go back to the old mainframe days," he says. "If you apply the
same principles to [today's] systems, you're actually quite sound."
Girn, who was speaking before his recent appointment as Westpac chief
technology officer, talks of a hybrid model, which employs a mixture
of automated procedures and manual checks to ensure people only have
access to the information they need and cannot operate outside their
authorised sphere. "In a large organisation, I think you need a
certain amount of automation to embed the control of information," he
says. "The way we've done that is to have a level of automation and
work flow when we create access to key systems. That automation allows
us to maintain the integrity of the information."
This is then checked manually. "Without that kind of hybrid approach,
with manual and automation, it becomes difficult in any large
organisation," he says.
Girn describes a life-cycle approach to access rights. This process
starts with defining the right job role and profile for staff. "We
have a mechanism [we use] to allocate that to individuals, which then
provides them with the access rights," he says. "That automation is
backed up by reconciliation mechanisms to make sure what you've set
out to do has been done. We have tools and facilities that do that for
key systems. On top of that, we conduct regular reviews to ensure the
applications and infrastructure have the right level of access and
integrity of information."
S2's McCabe argues that companies and other large organisations are
better off acknowledging that, given the size and complexity of their
systems, somewhere along the line something is going to go wrong.
After the Société Générale debacle, those responsible for reviewing
the company's systems didn't know where to begin looking. "Where do
you start?" he asks. "How do you audit them? How do you put procedures
in place that can't be worked around? It's a bit like the concept of
trusted computing. Mathematically, you can't secure yourself; it's
just too complicated."
He says organisations are better off keeping their data in such a way
that one piece can't give away the keys to the kingdom. "The
principles of all computer security now are getting into this other
keyword - compartmentalisation," McCabe says.
Government systems, like the ones found to be irresistible by browsers
at Centrelink and the ATO, provide good examples. Put all data in one
place and the problems only worsen. "Governments have taken a long
time to realise that it's a really bad idea to provide centralised
citizen records rather than federated records that can be brought
together on demand," he says.
"The main principle is to compartmentalise that information so you can
limit the damage and quickly find the people without a disaster
occurring. If you look at securing citizen information, with
smartcards and national ID cards, it's a principle for limiting
damage, because there'll always be people abusing the privilege."
The same ideas apply to finance, McCabe says. Systems need to be
designed in a compartmentalised way to firewall any damage that can be
caused by a breach in any one area.
"That's probably your overriding concern," he says. "When you have
people with access to very, very large financial trading capabilities
in one place, that's where you run into big problems. The exposures
are inevitable. The issue shouldn't be trying to prevent them
completely - because that's impossible. It should be about limiting
the damage through compartmentalisation."
But Girn says that with the right investment and strategy, as well as
a big dose of diligence, problems can be managed appropriately. He
doesn't necessarily agree with the federated data approach, at least
from a security standpoint.
"You have to apply the same principles whether you're looking at a
piece of the data or you're looking at the whole lot," Girn says. "The
crooks can piece together individual pieces; it can be valuable
information for criminals. Even if the data is held in multiple
locations, you still have to protect that, because in its own right it
could be confidential. It's the same standard regardless of whether
it's the federated or centralised [model].
"Sometimes what drives you towards a federated approach is not so much
an information security perspective. It's more performance, because
you're trying to put the data closer to the consumer, whether it's
your own internal network or elsewhere."
Girn says the bank has controls at a database level, for example,
which complement the access rights established at a transaction level.
"Whether it's the database, or the server," he says," we have
controlled access rights, monitoring and logging to ensure that we can
comfortably provide a confident assertion that the data is sound. But
you need that multiple layering in order to be confident."
The layered approach also extends to business rules, which form one of
the main defences against cheat-sheet data fudging. "But those kinds
of rules are also implemented out in the different parts of the
architecture," Girn says. "So sometimes business rules are in the
application. Others can be database rules - still business rules - but
[operating] in the database. That tiering ensures you are protected."
Critical rules have to be made non-negotiable and difficult to change,
he says. "Having them built into your system, and having the key
high-risk ones as being non-negotiable, is the approach we have
taken," he says. "It really makes life easier when you're doing
risk-management and market-risk analysis later on."
But McCabe says Société Générale showed that, without a push for
better regulation, many banks and other financial institutions will
continue to be unaware of problems they are sitting on.
"I suspect there are a lot of banks that just wouldn't know if they
had those exposures," he says. "They've built systems on systems and
it turns out that there's one more person that has quite a lot more
access than they really should have."
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