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Structural Models in Consumer Credit

by Fabio Wendling Muniz de Andrade of Fundação Getulio Vargas & Serasa - Brazil, and
Lyn Thomas of the University of Southampton

July 2004

Abstract: We propose a structural credit risk model for consumer lending using option theory and the concept of the value of the consumer's reputation. Using Brazilian empirical data and a credit bureau score as proxy for creditworthiness we compare a number of alternative models before suggesting one that leads to a simple analytical solution for the probability of default. We apply the proposed model to portfolios of consumer loans introducing a factor to account for the mean influence of systemic economic factors on individuals. This results in a hybrid structural-reduced-form model. And comparisons are made with the Basel II approach. Our conclusions partially support that approach for modelling the credit risk of portfolios of retail credit.

JEL Classification: C15, C51, G21, G28.

Keywords: Credit risk models, consumer credit, Basel II, structural models.

Published in: European Journal of Operational Research, Vol. 183, No. 3, (December 2007), pp. 1569-1581.

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