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A Causal Framework for Credit Default Theory

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Author Info
Wilson Sy (Australian Prudential Regulatory Authority)
Abstract

Most existing credit default theories do not link causes directly to the effect of default and are unable to evaluate credit risk in a rapidly changing market environment, as experienced in the recent mortgage and credit market crisis. Causal theories of credit default are needed to understand lending risk systematically and ultimately to measure and manage credit risk dynamically for financial system stability. Unlike existing theories, credit default is treated in this paper by a joint model with dual causal processes of delinquency and insolvency. A framework for developing causal credit default theories is introduced through the example of a new residential mortgage default theory. This theory overcomes many limitations of existing theories, solves several outstanding puzzles and integrates both micro and macroeconomic factors in a unified financial economic theory for mortgage default.

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File URL: http://www.business.uts.edu.au/qfrc/research/research_papers/rp204.pdf
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Publisher Info
Paper provided by Quantitative Finance Research Centre, University of Technology, Sydney in its series Research Paper Series with number 204.

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Length: 28
Date of creation: 01 Oct 2007
Date of revision:
Handle: RePEc:uts:rpaper:204

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Related research
Keywords: causal framework; credit default risk; delinquency; insolvency; mortgage defualt;

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Find related papers by JEL classification:
B41 - Schools of Economic Thought and Methodology - - Economic Methodology - - - Economic Methodology
C81 - Mathematical and Quantitative Methods - - Data Collection and Data Estimation Methodology; Computer Programs - - - Microeconomic Data
D14 - Microeconomics - - Household Behavior - - - Personal Finance
E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages
G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Capital and Ownership Structure
G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation

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    Other versions:
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    Other versions:
  6. Haibin Zhu, 2005. "The importance of property markets for monetary policy and financial stability," BIS Papers chapters, in: Bank for International Settlements (ed.), Real estate indicators and financial stability, volume 21, pages 9-29 Bank for International Settlements. [Downloadable!]
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    Other versions:
  15. Jarrow, Robert A & Turnbull, Stuart M, 1995. " Pricing Derivatives on Financial Securities Subject to Credit Risk," Journal of Finance, American Finance Association, vol. 50(1), pages 53-85, March. [Downloadable!] (restricted)
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