RELIABILITY OF CREDIT SCORES IN LOAN MANAGEMENT IN A DEVELOPING COUNTRY

Abstract

In developing countries, loan sales for expensive products are very common but highly risky because of frequent payment defaults. Because personal credit histories in these countries are imprecise and insufficient compared with those in developed countries, the use of credit scores in loan sales may be very unreliable. Here, to evaluate the reliability of credit scores, we build a simple cost-benefit model of loan management, dividing credit scores into 10 credit score classes (CSCs). As CSC increases, the rough net benefits increase because the total losses caused by payment defaults decrease. The use of credit scores in loan sales is thus found to be highly reliable in developing countries. Combining credit scores with newly developed sources (e.g., mobile phones) may provide highly accurate estimates for loan management.