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Modelling Downturn Loss Given Default

Author

Listed:
  • Raffaella Calabrese

    (University of Milano-Bicocca, Milan, Italy)

Abstract

Basel II requires that the internal estimates of Loss Given Default (LGD) reflect economic downturn conditions, thus modelling the "downturn LGD". In this work we suggest a methodology to estimate the downturn LGD distribution. Under the assumption that LGD is a mixture of an expansion and a recession distribution, an accurate parametric model for LGD is proposed and its parameters are estimated by the EM algorithm. Finally, we apply the proposed model to empirical data on Italian bank loans.

Suggested Citation

  • Raffaella Calabrese, 2012. "Modelling Downturn Loss Given Default," Working Papers 201226, Geary Institute, University College Dublin.
  • Handle: RePEc:ucd:wpaper:201226
    as

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    File URL: http://www.ucd.ie/geary/static/publications/workingpapers/gearywp201226.pdf
    File Function: First version, 2012
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    References listed on IDEAS

    as
    1. Filardo, Andrew J, 1994. "Business-Cycle Phases and Their Transitional Dynamics," Journal of Business & Economic Statistics, American Statistical Association, vol. 12(3), pages 299-308, July.
    2. Renault, Olivier & Scaillet, Olivier, 2004. "On the way to recovery: A nonparametric bias free estimation of recovery rate densities," Journal of Banking & Finance, Elsevier, vol. 28(12), pages 2915-2931, December.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Downturn LGD; Mixed random variable; Mixture; Beta density;

    JEL classification:

    • D31 - Microeconomics - - Distribution - - - Personal Income and Wealth Distribution
    • D63 - Microeconomics - - Welfare Economics - - - Equity, Justice, Inequality, and Other Normative Criteria and Measurement
    • D72 - Microeconomics - - Analysis of Collective Decision-Making - - - Political Processes: Rent-seeking, Lobbying, Elections, Legislatures, and Voting Behavior
    • H20 - Public Economics - - Taxation, Subsidies, and Revenue - - - General

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