Economic Benefit of Powerful Credit Scoring
Zurich Cantonal Bank; University of St. Gallen
University of Zurich - Department of Banking and Finance; Swiss Finance Institute; University of Zurich - Faculty of Economics, Business Administration and Information Technology
In this paper, we study the economic benefits from using credit scoring models. We contribute to the literature by relating the discriminatory power of a credit scoring model to the optimal credit decision. Given the Receiver Operating Characteristic (ROC) curve of the credit scoring model, we derive a) the profit-maximizing cuttoff regime and b) the pricing curve. In addition, we study a stylized loan market model with banks that differ in the quality of their credit scoring model. We find that profitability varies substantially among lenders. More powerful credit scoring models lead to economically significant differences in credit portfolio performance.
Number of Pages in PDF File: 42
Keywords: Bank loan pricing, credit scoring, discriminatory power, Receiver Operating Characteristic (ROC)
JEL Classification: D40, G21, H81working papers series
Date posted: January 31, 2005
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