Economic Capital Solution
The Economic
Capital application calculates both allowance for loan and lease losses
and economic capital requirements.
Through the set up process,
the probability of default (PD) and deviations of the default
probabilities by the customer PD ratings, and loss given default (LGD)
probabilities by the LGD ratings are entered. Industry correlations, risk
migrations, various stress scenarios, and projected portfolio growth can
be included in the economic capital calculation.
The application summarizes required total risk funds (allowance for loss
and economic capital) at differing loss percentiles. The empirically and
statistically derived risk funds may be less than current allowance for
loss and book capital.
The application quantifies the risk at the portfolio level, subportfolio
level, and individual debt exposures. Debt exposures requiring a high
amount of economic capital can easily be identified.
Portfolio managers can
identify economic capital requirements of sub-portfolio segments (such as
industry and loan type) to manage concentrations and set credit limits.
Besides evaluating capital
adequacy, the application allows lenders to monitor portfolio risk over
time, analyze concentration levels, and quantify the effects of changes in
portfolio composition on the portfolio risk. It also provides the data for
Risk-Adjusted Return on Capital profitability analysis.