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Stress testing of probability of default of individuals

Author

Listed:
  • Petr Kadeřábek
  • Aleš Slabý
  • Josef Vodička

Abstract

This paper introduces a model for stress testing of probability of default of individuals. The model rests on assumption that the individual defaults if his savings fall below zero. The probability of default is then described as a function of several macroeconomic indicators, such as wages, unemployment and interest rates. Stress testing is carried out by applying exogenous stress scenarios for development of these indicators. The model implies that sensitivity of probability of default to the stress is mainly driven by installment to income ratio and for mortgages also by loan maturity. Hence installment to income ratio is suggested as the appropriate tool to manage credit risk of retail portfolios.

Suggested Citation

  • Petr Kadeřábek & Aleš Slabý & Josef Vodička, 2008. "Stress testing of probability of default of individuals," Prague Economic Papers, Prague University of Economics and Business, vol. 2008(4), pages 340-355.
    • Handle: RePEc:prg:jnlpep:v:2008:y:2008:i:4:id:336:p:340-355
    DOI: 10.18267/j.pep.336
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    References listed on IDEAS

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    1. Abel, Andrew B, 1990. "Asset Prices under Habit Formation and Catching Up with the Joneses," American Economic Review, American Economic Association, vol. 80(2), pages 38-42, May.
    2. John Whitley & Richard Windram & Prudence Cox, 2004. "An empirical model of household arrears," Bank of England working papers 214, Bank of England.
    3. John Y. Campbell & John Cochrane, 1999. "Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," Journal of Political Economy, University of Chicago Press, vol. 107(2), pages 205-251, April.
    4. Merton, Robert C, 1974. "On the Pricing of Corporate Debt: The Risk Structure of Interest Rates," Journal of Finance, American Finance Association, vol. 29(2), pages 449-470, May.
    5. Petr JAKUBÍK, 2007. "Macroeconomic Environment and Credit Risk (in English)," Czech Journal of Economics and Finance (Finance a uver), Charles University Prague, Faculty of Social Sciences, vol. 57(1-2), pages 60-78, March.
    6. David B. Gross, 2002. "An Empirical Analysis of Personal Bankruptcy and Delinquency," The Review of Financial Studies, Society for Financial Studies, vol. 15(1), pages 319-347, March.
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    Citations

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    Cited by:

    1. Jakubik, Petr, 2011. "Households response to economic crisis," BOFIT Discussion Papers 7/2011, Bank of Finland, Institute for Economies in Transition.
    2. repec:zbw:bofitp:2011_007 is not listed on IDEAS
    3. Petr Jakubík, 2011. "Household Balance Sheets and Economic Crisis," Working Papers IES 2011/20, Charles University Prague, Faculty of Social Sciences, Institute of Economic Studies, revised Jun 2011.
    4. Jakubik, Petr, 2011. "Households response to economic crisis," BOFIT Discussion Papers 7/2011, Bank of Finland Institute for Emerging Economies (BOFIT).

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    More about this item

    Keywords

    credit risk; stress testing; banking; probability of default;
    All these keywords.

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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