Explainable models of credit losses

Credit risk management is an area where regulators expect banks to have trans-parent and auditable risk models, which would preclude the use of more accurate black-box models. Furthermore, the opaqueness of these models may hide unknownbiases that may lead to unfair lending decisions. In this study, we show that banksdo not have to sacrifice prediction accuracy at the cost of model transparency tobe compliant with regulatory requirements. We illustrate this by showing that the predictions of credit losses given by a black-box model can be easily explained in terms of their inputs. Because black-box models are better at uncovering complex patterns in the data, banks should consider the determinants of credit losses suggested by these models in lending decisions and pricing of credit exposures.