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Interest rates and default in unsecured loan markets

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  • Jose Angelo Divino
  • Edna Souza Lima
  • Jaime Orrillo

Abstract

This paper investigates how interest rates affect the probability of default (PD) in a general equilibrium incomplete markets economy. We show that the PD depends positively on the loan interest rate and negatively on the economy base interest rate. Empirically, this finding is confirmed by estimation of the Cox proportional hazard model with time-varying covariates using a sample of 445 889 individual contracts from a large Brazilian bank. Among the controls are macroeconomic variables and specific characteristics of the contracts and borrowers. A lower base interest rate, implied by easing monetary policy, leads banks to lend more money for riskier borrowers, increasing the PD.

Suggested Citation

  • Jose Angelo Divino & Edna Souza Lima & Jaime Orrillo, 2013. "Interest rates and default in unsecured loan markets," Quantitative Finance, Taylor & Francis Journals, vol. 13(12), pages 1925-1934, December.
    • Handle: RePEc:taf:quantf:v:13:y:2013:i:12:p:1925-1934
    DOI: 10.1080/14697688.2012.738932
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    References listed on IDEAS

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    Cited by:

    1. Divino, Jose Angelo & Rocha, Líneke Clementino Sleegers, 2013. "Probability of default in collateralized credit operations," The North American Journal of Economics and Finance, Elsevier, vol. 25(C), pages 276-292.
    2. Carvalho, Jaimilton & Orrillo, Jaime & da Silva, Fernanda Rocha Gomes, 2020. "Probability of default in collateralized credit operations for small business," The North American Journal of Economics and Finance, Elsevier, vol. 52(C).
    3. Dendramis, Y. & Tzavalis, E. & Adraktas, G., 2018. "Credit risk modelling under recessionary and financially distressed conditions," Journal of Banking & Finance, Elsevier, vol. 91(C), pages 160-175.

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