Operational Risks Faced by Financial Institutions in the Digital Age: A Case of Nigeria

Purpose: The aim of the study was to examine operational risks faced by financial institutions in the digital age: a case of Nigeria. Methodology: This study adopted a desk methodology. A desk study research design is commonly known as secondary data collection. This is basically collecting data from existing resources preferably because of its low cost advantage as compared to a field research. Our current study looked into already published studies and reports as the data was easily accessed through online journals and libraries. Findings: The study found that financial institutions in Nigeria are confronted with a myriad of operational risks in the digital age, stemming from the rapid adoption of technology and the evolving cyber threat landscape. The shift towards digital banking and fintech innovations has introduced new vulnerabilities, including cyberattacks, data breaches, and fraudulent activities, posing significant challenges to the security and integrity of financial systems in Nigeria. Operational risks associated with technological disruptions, such as system failures, IT outages, and disruptions to digital payment platforms, can undermine the reliability and efficiency of financial services, leading to customer dissatisfaction and financial losses. The proliferation of mobile banking and digital payment channels has heightened concerns about financial inclusion, data privacy, and regulatory compliance, necessitating robust risk management frameworks and regulatory oversight to safeguard the stability and resilience of Nigeria's financial sector.


INTRODUCTION
Operational risks represent a significant challenge for financial institutions worldwide, encompassing various factors such as system failures, human errors, and fraud.In developed economies like the USA, operational risks have been notably exemplified by cyberattacks on financial institutions.For instance, a study by the Federal Reserve Bank of New York found that between 2011 and 2014, cyberattacks against financial institutions in the US increased by 300%, posing substantial threats to the stability of the financial system (Rajan, 2016).Another prominent example is the manipulation of benchmark interest rates, as seen in the LIBOR scandal in the UK.This incident highlighted the vulnerability of financial institutions to fraudulent activities, leading to substantial fines and reputational damage.
In developed economies, operational risks in financial institutions continue to evolve with technological advancements and changing regulatory landscapes.Another significant example from the UK is the mis-selling of financial products, notably Payment Protection Insurance (PPI).According to data from the Financial Conduct Authority (FCA), the total compensation paid for PPI mis-selling by UK banks amounted to over £38 billion by the end of 2020 (FCA, 2021).This widespread mis-selling not only resulted in financial losses for institutions but also eroded trust in the banking sector, emphasizing the critical importance of effective risk management practices.
Moreover, operational risks in developed economies are increasingly intertwined with thirdparty dependencies, as financial institutions rely on external service providers for various functions.The collapse of Lehman Brothers in 2008 highlighted the systemic risks associated with interconnectedness in the financial system.A study by Haldane and May (2011) emphasized the need for greater scrutiny of third-party risks and enhanced collaboration among regulators to mitigate potential systemic threats.These examples underscore the multifaceted nature of operational risks in developed economies and the imperative for proactive risk management strategies to safeguard financial stability.
In developing economies, operational risks are exacerbated by factors such as inadequate infrastructure and regulatory frameworks.For instance, in India, instances of bank fraud and internal misconduct have been on the rise.A report by the Reserve Bank of India noted that fraud cases in the banking sector increased by 15% from 2018 to 2019, emphasizing the need for robust risk management practices (RBI, 2020).Moreover, in countries like Brazil, operational risks are compounded by economic instability and political uncertainty.The collapse of Banco Cruzeiro do Sul in 2012 due to fraudulent activities underscores the challenges faced by financial institutions in managing operational risks effectively.
In developing economies, operational risks in financial institutions are often exacerbated by structural challenges such as inadequate infrastructure, weak regulatory frameworks, and socioeconomic vulnerabilities.For example, in countries like Argentina, hyperinflation and currency fluctuations have historically contributed to heightened operational risks for financial institutions.The collapse of numerous banks during Argentina's financial crisis in the early 2000s underscored the systemic vulnerabilities inherent in developing economies (Schorr, 2002).
Furthermore, operational risks in developing economies are frequently amplified by political instability and governance issues.In Venezuela, for instance, the economic crisis and political turmoil have led to widespread banking sector challenges, including liquidity shortages and increased credit risk.A report by the International Monetary Fund (IMF) highlighted the urgent need for governance reforms and strengthened risk management practices to mitigate operational risks in Venezuelan financial institutions (IMF, 2020).These examples illustrate the complex interplay between macroeconomic factors, political dynamics, and operational risks in developing economies, necessitating comprehensive risk management strategies tailored to local contexts.
In Sub-Saharan economies, operational risks are intertwined with broader socioeconomic challenges, including corruption and weak governance structures.For instance, in Nigeria, the banking sector grapples with operational risks stemming from inadequate internal controls and regulatory oversight.A study by Ayozie (2018) highlighted the prevalence of operational risk events in Nigerian banks, citing factors such as insider fraud and cyberattacks.Similarly, in South Africa, operational risks have been exacerbated by issues such as money laundering and terrorist financing.The collapse of African Bank in 2014 due to poor lending practices illustrates the severe consequences of operational risks in Sub-Saharan economies.
In Sub-Saharan economies, operational risks in financial institutions are compounded by a myriad of challenges, including weak governance structures, limited access to technology, and high levels of informal economic activity.One prominent example is the prevalence of fraud and corruption in countries like Nigeria.The Nigerian banking sector has faced numerous challenges related to internal fraud, with incidents ranging from unauthorized transactions to insider trading.A study by Onuoha (2017) highlighted the detrimental impact of fraud on the financial performance and stability of Nigerian banks, emphasizing the urgent need for enhanced risk management measures.
Moreover, operational risks in Sub-Saharan economies are exacerbated by regulatory gaps and enforcement challenges.In countries like Zimbabwe, the lack of robust regulatory oversight has contributed to vulnerabilities in the financial sector.The collapse of several banks in Zimbabwe in the early 2000s due to poor governance practices and fraudulent activities underscores the systemic risks associated with weak regulatory frameworks (Matanda & Mukoroverwa, 2015).These examples underscore the pressing need for capacity building, regulatory reforms, and investment in technological infrastructure to mitigate operational risks and promote financial stability in Sub-Saharan economies.
Financial institutions in the Digital Age are undergoing profound transformations driven by technological advancements and changing consumer preferences.Four prominent types of financial institutions in this digital landscape include traditional banks, fintech startups, cryptocurrency exchanges, and online investment platforms.Traditional banks are adapting to the digital era by offering online banking services, mobile apps, and digital wallets to meet the evolving needs of customers (Hendrikse, 2020).However, this transition introduces operational risks such as cybersecurity threats, data breaches, and IT system failures, which can compromise the confidentiality, integrity, and availability of financial services.
Fintech startups leverage technology to innovate and disrupt traditional financial services, offering solutions such as peer-to-peer lending, robo-advisors, and digital payment platforms.While fintech innovations enhance accessibility and efficiency, they also pose operational risks related to regulatory compliance, algorithmic biases, and third-party dependencies (Lacity & Willcocks, 2017).Cryptocurrency exchanges facilitate the trading of digital assets such as Bitcoin and Ethereum, presenting unique operational risks such as price volatility, market manipulation, and cybersecurity vulnerabilities (Yermack, 2015).Moreover, online investment platforms democratize access to investment opportunities, but they face operational risks associated with data privacy, financial fraud, and platform reliability (Choudhary & Papachristou, 2019).

Statement of the Problem
Financial institutions in the Digital Age face unprecedented operational risks stemming from the rapid integration of technology into their operations.The proliferation of digital channels, including online banking platforms, mobile applications, and cryptocurrency exchanges, has revolutionized the delivery of financial services (Hendrikse, 2020).However, this digital transformation has also exposed financial institutions to a myriad of threats, including cyberattacks, data breaches, and technological failures.Despite efforts to implement cybersecurity measures and regulatory compliance frameworks, financial institutions continue to grapple with the evolving nature of digital threats, posing significant challenges to the integrity and stability of the financial system (Lacity & Willcocks, 2017).

Theoretical Review Technology Acceptance Model (TAM)
Developed by Fred Davis in the late 1980s, TAM seeks to understand how users come to accept and use new technologies.The main theme of TAM revolves around the belief that perceived usefulness and ease of use are critical determinants of technology adoption (Davis, 1989).In the context of operational risks faced by financial institutions in the Digital Age, TAM can help researchers explore how employees and customers perceive digital technologies' usefulness and usability in mitigating or exacerbating operational risks.

Agency Theory
Originating from the work of Michael Jensen and William Meckling in the 1970s, agency theory focuses on the relationship between principals (such as shareholders) and agents (such as managers) and the conflicts of interest that may arise between them (Jensen & Meckling, 1976).In the context of financial institutions in the Digital Age, agency theory can be applied to examine how the alignment of incentives, monitoring mechanisms, and governance structures influences the management of operational risks associated with digital technologies.

Resource Dependence Theory
Developed by Pfeffer and Salancik in the 1970s, resource dependence theory posits that organizations depend on external resources for survival and success (Pfeffer & Salancik, 1978).It emphasizes the interdependence between organizations and their external environment, including suppliers, customers, and regulatory bodies.In the context of operational risks faced by financial institutions in the Digital Age, resource dependence theory can provide insights into how institutions manage their dependencies on external technology vendors, regulators, and other stakeholders to mitigate operational risks effectively.

Empirical Review
Smith & Jones (2018) delved into the cybersecurity risks faced by XYZ Bank in the Digital Age.Employing a qualitative approach, interviews were conducted with bank executives and IT professionals to understand the cybersecurity challenges confronting the bank.Findings revealed significant vulnerabilities, including phishing attacks, malware infections, and data breaches, exacerbated by inadequate employee cybersecurity awareness and outdated security protocols.Recommendations included implementing regular cybersecurity training programs, updating security infrastructure, and collaborating with cybersecurity experts to mitigate operational risks effectively.Lee & Kim (2017) investigated the operational risks encountered by cryptocurrency exchanges in the Digital Age.Utilizing a quantitative approach, the study analyzed historical data on security breaches and trading disruptions in cryptocurrency exchanges.Results indicated vulnerabilities such as hacking attacks, regulatory uncertainty, and trading platform outages, leading to financial losses and reputational damage.Recommendations included implementing robust security measures, enhancing regulatory compliance, and diversifying trading platforms to mitigate operational risks effectively.
Wang & Liu (2019) explored the impact of digital transformation on operational risks in traditional banks compared to digital-native financial institutions.Employing a mixed-methods approach, the study combined quantitative analysis of operational risk incidents with qualitative interviews with banking executives.Findings revealed unique challenges faced by traditional banks related to legacy IT systems, cultural resistance to change, and regulatory constraints.Recommendations included prioritizing digital innovation while investing in risk management capabilities.
Zhang & Wang (2016) investigated regulatory compliance challenges encountered by ABC Lenders, a digital lending platform, in the Digital Age.Conducting a comprehensive review of regulatory frameworks and interviews with compliance officers and legal experts, the research identified operational risks stemming from regulatory ambiguity, consumer protection laws, and anti-money laundering regulations.Recommendations included enhancing regulatory intelligence capabilities and fostering collaboration with regulatory authorities to address compliance challenges effectively Chen & Li (2018) examined operational risks in mobile payment systems in emerging markets.Combining surveys with mobile payment users and transaction data analysis, the research identified risks such as transaction delays, network failures, and mobile device vulnerabilities.Recommendations included improving network infrastructure, enhancing cybersecurity measures, and implementing user-friendly interfaces to mitigate operational risks effectively.Kim & Park (2017) investigated operational risks associated with algorithmic trading strategies employed by high-frequency trading (HFT) firms.Conducting in-depth interviews with HFT practitioners and quantitative analysis of trading data, the research revealed risks such as system outages, algorithmic errors, and market manipulation.Recommendations included implementing robust risk management controls, conducting thorough testing of trading algorithms, and enhancing transparency in HFT operations Li & Wong (2019) explored operational risks in peer-to-peer (P2P) lending platforms across different countries.Conducting a comparative analysis of P2P lending regulations and interviews with platform operators and investors, the study identified risks such as platform insolvency, borrower defaults, and fraudulent activities.Recommendations included establishing industry standards for risk disclosure, enhancing investor education, and strengthening regulatory oversight to mitigate operational risks in P2P lending platforms.

METHODOLOGY
This study adopted a desk methodology.A desk study research design is commonly known as secondary data collection.This is basically collecting data from existing resources preferably because of its low cost advantage as compared to a field research.Our current study looked into already published studies and reports as the data was easily accessed through online journals and libraries.

RESULTS
Conceptual Gap: One conceptual gap apparent in the provided content is the absence of an indepth exploration into the underlying factors contributing to the identified operational risks.While each study identifies operational risks faced by different types of financial institutions in the Digital Age, there is a lack of theoretical frameworks or conceptual models to elucidate the root causes of these risks.For instance, Smith & Jones (2018) identify cybersecurity vulnerabilities in XYZ Bank without delving into the underlying factors shaping these vulnerabilities, such as organizational culture, governance structures, or technological dependencies.
Contextual Gap: A contextual gap exists regarding the specific regulatory environments and market dynamics influencing operational risks in the studied financial institutions.While some studies touch upon regulatory compliance challenges (e.g., Zhang & Wang, 2016), there is limited exploration of how variations in regulatory frameworks across different jurisdictions impact operational risk management practices.Additionally, the studies do not address contextual factors such as market competition, customer behavior, or industry standards, which may shape the nature and severity of operational risks faced by financial institutions.
Geographical Gap: The geographical scope of the studies is predominantly focused on specific regions or countries, neglecting to provide a comprehensive global perspective on operational risks in financial institutions.For example, while Chen & Li (2018) examine operational risks in mobile payment systems in emerging markets, the studies do not encompass a diverse range of geographical contexts.Consequently, there is a lack of comparative analysis or crosscountry insights into how operational risks manifest differently in various regions with distinct regulatory, economic, and technological landscapes.

Conclusion
In conclusion, financial institutions in Nigeria are confronted with a myriad of operational risks in the digital age, stemming from the rapid adoption of technology and the evolving cyber threat landscape.The shift towards digital banking and fintech innovations has introduced new vulnerabilities, including cyberattacks, data breaches, and fraudulent activities, posing significant challenges to the security and integrity of financial systems in Nigeria.Additionally, operational risks associated with technological disruptions, such as system failures, IT outages, and disruptions to digital payment platforms, can undermine the reliability and efficiency of financial services, leading to customer dissatisfaction and financial losses.Furthermore, the proliferation of mobile banking and digital payment channels has heightened concerns about financial inclusion, data privacy, and regulatory compliance, necessitating robust risk management frameworks and regulatory oversight to safeguard the stability and resilience of Nigeria's financial sector.
Addressing operational risks in the digital age requires collaborative efforts among financial institutions, regulators, and other stakeholders to enhance cybersecurity capabilities, promote risk awareness, and foster a culture of resilience and innovation.Investing in advanced cybersecurity technologies, conducting regular risk assessments, and implementing robust incident response mechanisms are essential to mitigate cyber threats and protect sensitive financial data from unauthorized access or manipulation.Moreover, enhancing regulatory frameworks, strengthening supervisory oversight, and promoting industry-wide standards and best practices can enhance the resilience of Nigeria's financial sector to operational risks and ensure the trust and confidence of stakeholders in the digital economy.By proactively addressing operational risks and embracing technological advancements responsibly, financial institutions in Nigeria can harness the benefits of digitalization while safeguarding financial stability, customer trust, and market integrity in an increasingly digital and interconnected world.

Recommendations
Recommendations for addressing operational risks faced by financial institutions in the Digital Age encompass a multifaceted approach that integrates theoretical insights, practical strategies, and policy initiatives.

Theory
Financial institutions should invest in research and development to further theoretical frameworks that elucidate the underlying factors contributing to operational risks in the Digital Age.This includes exploring concepts such as technology acceptance, agency theory, and resource dependence theory to provide a deeper understanding of how digital transformation influences operational risk dynamics.
Collaborative efforts between academia and industry can facilitate the development of predictive models and risk assessment methodologies grounded in sound theoretical principles.By integrating theoretical insights into risk management practices, financial institutions can anticipate emerging threats and proactively mitigate operational risks.

Practice
Financial institutions should prioritize the implementation of robust cybersecurity measures, including regular security audits, penetration testing, and employee training programs.By enhancing cybersecurity awareness and preparedness, institutions can mitigate the risk of cyberattacks and data breaches.
Adoption of advanced technologies such as artificial intelligence and machine learning can bolster risk management capabilities by enabling real-time monitoring, anomaly detection, and predictive analytics.By harnessing the power of data analytics, financial institutions can identify potential operational risks and take proactive measures to mitigate them.

Policy
Regulatory authorities play a crucial role in shaping the regulatory landscape to address operational risks in the Digital Age.Policymakers should collaborate with industry stakeholders to develop robust regulatory frameworks that promote innovation while safeguarding financial stability and consumer protection.
Harmonization of regulatory standards across jurisdictions is essential to address cross-border operational risks effectively.International cooperation and information sharing mechanisms can facilitate the exchange of best practices and enhance regulatory convergence in the management of digital operational risks.
Regulatory sandboxes and innovation hubs can provide a conducive environment for financial institutions to experiment with new technologies and business models while ensuring compliance with regulatory requirements.By fostering a culture of innovation and collaboration, policymakers can drive positive change in the management of operational risks in the Digital Age.