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Credit scoring and credit risk

It is like a “report card” or, better said, an assessment of the reliability of the consumer who has requested a loan. Credit scoring (the procedure that determines a score or “acceptance score”) is widely used by banks and financial institutions to estimate the probability that the customer will be able to honor his debt in a given period. From the point of view of who has to provide the loan, therefore, this score determines the “credit risk”.

The score is the result of a complex mathematical calculation, which brings together four types of information:

  • the customer‘s income capacity and other characteristics (for example, personal data and profession);
  • the identikit of the financial product (duration of the loan, total amount and monthly payment, etc.);
  • information on the good or service to be financed;
  • the level of indebtedness of the applicant.

In 2008, a survey by Paola Rossi published by the Bank of Italy and conducted on a sample of over 300 financial intermediaries throughout the country, highlighted that the most innovative financial products were more frequent in banks that had adopted technical credit scores to evaluate customers: 91% of the major credit institutions already used them. A practical example is mortgaged with a duration of at least thirty years: the institutions able to offer them quadrupled from 15% in 2003 to 59% in 2006.

Banks capable of equipping themselves with such sophisticated tools as mathematical models usually have greater organizational skills are able to enter long-term bonds on international markets and have the skills to manage more complex solutions. Scoring, therefore, contributed in part to the evolution of the Italian market for loans to households, which is smaller than in many other European countries, also due to the low variety of products offered.

The results of these complex calculations, the study reads, are fundamental in deciding whether or not to grant the loan and very important in determining the amount of the loan. The quantitative report card is also considered relevant to assess the guarantees provided by the customer and to monitor the progress of the relationship during the repayment period. In 2009, Crif, one of the main private credit databases, acquired the Italian branch of Dun & Bradstreet, which specialized in credit scoring decision-making systems.

This methodology was born in the United States (the first traces date back to the 1930s, after the Great Depression) and also as a tool for assessing the solvency of companies. To analyze a production reality, information obtained from financial statements is used, in order to distinguish the most robust companies from those at risk of default (insolvency, loss of the ability to pay one’s debts). However, it is necessary to make these financial statements homogeneous based on common accounting principles. The analysis can examine customers (including small and medium-sized enterprises) belonging to different sectors, geographical areas and with different company sizes, as long as they are comparable, monitoring their performance over time. But it’s not always possible to grasp the fastest business changes or have enough information in a certain industry.

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