A survey of cyclical effects in credit risk measurement model

We survey both academic and proprietary models to examine how macroeconomic and systematic risk effects are incorporated into measures of credit risk exposure. Many models consider the correlation between the probability of default (PD) and cyclical factors. Few models adjust loss rates (loss given default) to reflect cyclical effects. We find that the possibility of systematic correlation between PD and LGD is also neglected in currently available models.

This paper was presented at the conference on "Changes in risk through time: measurement and policy responses" organised by the BIS on 6 March 2002 and, as such, is appearing in the BIS Working Papers series.