Credit-risk regulation imports market-finance models developed for traded securities.

Evidence

Calculation of capital requirements follows the IRB approach (which is in practice the approach imposed by the bank supervisor in the case of France) by applying a financial mathematical model, the ASRF (Asymptotic Single Risk Factor) model, which is based on probabilities of borrower default established by the bank itself from a statistical analysis of its credit portfolio. This calculation method is in fact based on the transposition to credit activities, for all types of borrowers (including individuals, unlisted firms, and a variety of non-profit organisations), of theoretical models developed from the 1970s onwards for securities traded on the financial markets. Those models consider that a firm’s future position can be represented by a random variable following a normal distribution, whose parameters (average expected return and risk) can be estimated using information supplied by the financial markets, and information based on share prices in particular. Banking regulations thus require all banks to use this model and implement a special rating system of borrowers, which are financialised methods, in order to estimate 10 The methods and instruments for calculating credit risk introduced under Basel II were not changed in Basel III, and are still the standard regulatory rule for computing credit risk today. — Ève Chiapello, Financialisation of Valuation, 60

Categorization

• XREF: Connects to the reader’s financialization-of-valuation interest: regulation itself becomes a vector that imports finance theory into bank lending to individuals, unlisted firms, and NGOs. — connects to: Probabilistic valuation methods migrated from actuarial science into financial markets via Gaussian risk models — Ève Chiapello, Financialisation of Valuation, 33; Basel regulations displaced bankers’ practical credit judgment with statistical risk models — Ève Chiapello, Financialisation of Valuation, 63; A financial model can be written into regulation to enact its own assumptions — Donald MacKenzie, An Engine, Not a Camera: How Financial…, 742 (+7 more)
• SEED: Angle: how regulatory standardization becomes an engine of financialization even where markets don’t naturally reach, e.g. forcing non-market actors into market-based credit models.

Related

• Basel regulations displaced bankers’ practical credit judgment with statistical risk models (similarity 0.85)
• A financial model can be written into regulation to enact its own assumptions (similarity 0.84)
• Regulatory capital rules redefine banks as investor vehicles rather than funding distributors (similarity 0.81)

Broader Connections

• Basel regulations displaced bankers’ practical credit judgment with statistical risk models #expands (0.85) — Ève Chiapello, Financialisation of Valuation, 63
• A financial model can be written into regulation to enact its own assumptions #expands (0.85) — Donald MacKenzie, An Engine, Not a Camera, 742
• Large banks realize the model’s zero-transaction-cost assumption through portfolio internalization #exemplifies (0.80) — Donald MacKenzie, An Engine, Not a Camera, 1160
• Economic theory succeeded in derivatives markets partly by making markets conform to it #expands (0.80) — Donald MacKenzie & Yuval Millo, Constructing a Market, Performing Theory, 9
• Regulatory use of CAPM could generate model-compliant returns but remains untested empirically #corroborates (0.75) — Donald MacKenzie, An Engine, Not a Camera, 1150
• Markets carry explicit traces of the specific pricing models they use #expands (0.75) — Donald MacKenzie, An Engine, Not a Camera, 899
• Regulated investors’ restricted choices can make high-grade bond financing a super-premium strategy #expands (0.75) — Donald MacKenzie, An Engine, Not a Camera, 191
• Market actions based on efficient-market models can create anomalies those models cannot explain #complicates (0.72) — Donald MacKenzie, An Engine, Not a Camera, 1166
• Finance theory developed cumulatively like a technological cascade from Markowitz to trading room practice #expands (0.72) — Donald MacKenzie, An Engine, Not a Camera, 1090