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    This document summarizes a research paper that explores a two-stage credit evaluation process for bank lending. The paper derives two trigger cost thresholds for borrowers rated as credible or likely to default in the first stage. Depending on the proportion of good versus bad borrowers, the optimal bank strategy is to conduct second-stage evaluations either on both types, just one type, or neither. The paper finds that during economic downturns when bad borrowers outnumber good ones, the trigger cost is higher for good borrowers, so banks are more inclined to further evaluate them. Conversely, when good borrowers are more common, their trigger cost is lower, so banks focus less on further evaluating them.

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    This document summarizes a research paper that explores a two-stage credit evaluation process for bank lending. The paper derives two trigger cost thresholds for borrowers rated as credible or likely to default in the first stage. Depending on the proportion of good versus bad borrowers, the optimal bank strategy is to conduct second-stage evaluations either on both types, just one type, or neither. The paper finds that during economic downturns when bad borrowers outnumber good ones, the trigger cost is higher for good borrowers, so banks are more inclined to further evaluate them. Conversely, when good borrowers are more common, their trigger cost is lower, so banks focus less on further evaluating them.

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    2 views1 page

    Review

    Uploaded by

    chickmomos
    This document summarizes a research paper that explores a two-stage credit evaluation process for bank lending. The paper derives two trigger cost thresholds for borrowers rated as credible or likely to default in the first stage. Depending on the proportion of good versus bad borrowers, the optimal bank strategy is to conduct second-stage evaluations either on both types, just one type, or neither. The paper finds that during economic downturns when bad borrowers outnumber good ones, the trigger cost is higher for good borrowers, so banks are more inclined to further evaluate them. Conversely, when good borrowers are more common, their trigger cost is lower, so banks focus less on further evaluating them.

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    Department of Accounting, Soochow University, 56, Sec 1, Kuei-Yang Street Taipei 100, Taiwan 100 Deloitte & Touche, Taiwan

    Accepted 16 May 2008. Available online 21 July 2008.

    Abstract
    Traditionally, banks conduct standard credit evaluation such as credit scoring following the receipt of loan request and make the accept/reject decision accordingly. This research explores the possibility of two stages credit evaluation in lending process. When the evaluation cost drops below the trigger cost, it pays to conduct the second-stage loan appraisal. We derive two trigger cost thresholds for borrowers who are rated as credible and default in the first stage, respectively. Contingent on the share of good borrowers relative to the bad ones, the optimal strategy of the bank can be differentiated to implement second-stage evaluation on either (1) both types, or (2) only one type, or (3) neither type of the borrowers. We find that during severe economic contractions or in geographic areas/industries which are in deep troubles, whilst the borrowers who repay the loan are out-numbered by the borrowers who fail to pay, the trigger cost for good borrower is higher than that of default borrower. In this scenario, the banks are more inclined to undertake the second-stage credit evaluation on good borrowers. On the other hand, if the percentage of credible borrowers is higher than that of default borrowers, the trigger cost for good borrower lies below the trigger cost of default borrower. As a result, the banks are less inclined to undertake the second-stage evaluation on good borrowers. Keywords: Bank lending process; Two stage credit evaluation; Loan screening; Trigger cost; Asymmetric information

    http://www.sciencedirect.com/science/article/pii/S0264999308000588

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