Economics · Banking and Risk Management

Statement 1: The 'Probability of Default' (PD) in a credit scoring model is an estimate of the likelihood that a borrower will default within a specific time horizon, typically one year, and is the foundational component for calculating 'Expected Loss' (EL). Statement 2: 'Loss Given Default' (LGD) represents the proportion of the exposure that a bank is likely to lose if a default occurs, after accounting for recoveries, and is heavily influenced by collateral type and local insolvency frameworks like the IBC. Statement 3: 'Exposure at Default' (EAD) refers to the total amount that the borrower owes the bank at the moment they fail to meet their obligations, including outstanding principal and accrued interest. Statement 4: A 'Reject Inference' technique is used during credit scorecard development to account for the potential bias created by only training the model on historical 'accepted' applications. Statement 5: The 'Population Stability Index' (PSI) is a metric used by risk modelers to monitor whether the current distribution of applicants' scores has shifted significantly from the development population. Statement 6: 'Adverse Selection' occurs when a bank's scoring model is incorrectly calibrated, leading it to disproportionately attract higher-risk borrowers than intended. Statement 7: The 'SEBI (Credit Rating Agencies) Regulations, 1999' primarily govern corporate ratings for tradable instruments, which are distinct from Credit Information Companies (CICs) handling individual credit history under RBI jurisdiction. Evaluate the statements above. Which statement, if added as Statement 8, would be most accurate and consistent with the regulatory and financial principles of credit risk management?