A Theory of Credit Scoring and the Competitive Pricing of Default Risk

Satyajit Chatterjee (), P. Dean Corbae, José-Víctor Ríos-Rull and Kyle Dempsey ()

No 550, 2018 Meeting Papers from Society for Economic Dynamics

Abstract: We propose a theory of unsecured consumer credit where: (i) borrowers have the legal option to default; (ii) defaulters are not exogenously excluded from future borrowing; and (iii) there is free entry of lenders; and (iv) lenders cannot collude to punish defaulters. In our framework, limited credit or credit at higher interest rates following default arises from the lender's optimal response to limited information about the agent's type. The lender learns from an individual's borrowing and repayment behavior about his type and encapsulates his reputation for not defaulting in a credit score. We take the theory to data choosing the parameters of the model to match key data moments such as the overall delinquency rate. We use the model to quantify the value to having a good reputation in the credit market in a variety of ways, and also analyze the differential effects of static versus dynamic costs on credit market equilibria.

Date: 2018
New Economics Papers: this item is included in nep-dge and nep-rmg
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Citations: View citations in EconPapers (29)

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Related works:
Working Paper: A Theory of Credit Scoring and Competitive Pricing of Default Risk (2014)
Working Paper: A Theory of Credit Scoring and the Competitive Pricing of Default Risk (2011)
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