Bank Risk Rating of Business Loan

47 Pages Posted: 3 Mar 1999

See all articles by William B. English

William B. English

Government of the United States of America - Division of Monetary Affairs

William R. Nelson

Board of Governors of the Federal Reserve System

Date Written: December 7, 1998

Abstract

In recent years many banks have attempted to improve the measurement and management of credit risk by assigning risk ratings to business loans. Virtually all large banks now assign such ratings. However, until recently there has been little information on the use of risk ratings by smaller banks. Recent revisions to the Federal Reserve's Survey of Terms of Business Lending and telephone consultations with more than 100 banks on the survey panel provide data on the prevalence and precision of risk rating systems at banks of all sizes. We find that the use of risk rating systems is quite widespread, but that smaller banks generally have less detailed systems than do larger banks. In addition, the new survey data allow us to asses the relationships between loan risk ratings and loan terms. Not surprisingly, riskier loans generally carry higher interest rates, even after taking account of other loan terms. There are more complex relationships between loan risk and other loan terms. Regression results indicate that banks of all sizes price for risk. We do not find a relationship between reported loan risk and delinquency and charge-off rates. However, this may reflect how recently the risk rating data have become available.

JEL Classification: G21

Suggested Citation

English, William B. and Nelson, William Richard, Bank Risk Rating of Business Loan (December 7, 1998). Board of Governors of the Federal Reserve System FEDS Paper No. 98-51. Available at SSRN: https://ssrn.com/abstract=148753 or http://dx.doi.org/10.2139/ssrn.148753

William B. English (Contact Author)

Government of the United States of America - Division of Monetary Affairs ( email )

20th and C Streets, NW
Washington, DC 20551
United States
202-736-5645 (Phone)
202-452-3819 (Fax)

William Richard Nelson

Board of Governors of the Federal Reserve System ( email )

20th Street and Constitution Avenue NW
Washington, DC 20551
United States

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