Risk management in social banking: the role of subjective and experiential factors in assessing microenterprises1

Internal credit ratings have been gaining in importance in the last decade especially fordetermining regulatory capital requirements and for portfolio management. In this respect,social banks do not differ from other financial intermediaries. Notwithstanding, theynecessitate to adjust the internal credit rating systems to the peculiarities of their activities thatheavily rest upon relationship-based lending techniques. Including subjective and experientialfactors in the design of internal rating models provides a route social banks can follow to meetthis necessity. Our empirical results corroborate previous studies that demonstrate therelevance of using non-financial factors (loan officer's subjective judgment and experience) inorder to predict future default occurrences. We also try to gain a better understanding of thefoundations upon which loan officer's subjective assessments hinge. We find that subjectivefactors are statistically linked to hard facts but, at the same time, they constitute a source ofadditional information (forward-looking perspective). Moreover, we show that long-termrelationship favourably influences the qualitative rating. This finding gives some insight onthe issue of the transferability of qualitative information amongst financial intermediaries.Finally, our analysis focuses, in this paper, on social banking but it could easily been appliedto microfinance institutions since the lending technologies are also qualitative-informationintensive.