Credit risk arises from the failure of an obligor of a bank to repay principal or interest at the stipulated time or failure otherwise to perform as agreed. The risk is compounded if the collateral only partly covers the claims made to the borrower, or if its valuation is exposed to frequent changes due to changing market conditions (i.e market risk).
The goal of a bank is to apply sophisticated but realistic credit models and systems to monitor and manage credit risk. Ultimately these credit models and systems are the foundation for the application of internal rating based approach to calculation of capital requirements. The development, implementation and application these models are guided by a bank base strategy.
A bank may, implements a consistent pricing model for loans to its different target markets. Also a client interest is guarded at all times, and collateral quality is never the sole reason for a positive credit decision.
