Credit market equilibrium theory and evidence: Revisiting the structural versus reduced form credit risk model debate
There are two competing paradigms for modeling credit risk: the structural and reduced form models. This paper applies our knowledge of credit market equilibrium to this debate. We show that credit markets have asymmetric information in the borrowing and lending relationship which influence equilibrium prices. Reduced form models are consistent with asymmetric equilibrium models, but structural models are not. This implies that structural models should not be used for pricing, hedging, or risk management.
Year of publication: |
2011
|
---|---|
Authors: | Jarrow, Robert A. |
Published in: |
Finance Research Letters. - Elsevier, ISSN 1544-6123. - Vol. 8.2011, 1, p. 2-7
|
Publisher: |
Elsevier |
Keywords: | Asymmetric information Adverse selection Moral hazard Structural models Reduced form models Credit risk Default probabilities Credit market equilibrium Capital structure |
Saved in:
Online Resource
Saved in favorites
Similar items by person
-
Risk‐neutral pricing techniques and examples
Jarrow, Robert A., (2021)
-
Restructuring Risk in Credit Default Swaps: An Empirical Analysis
Berndt, Antje, (2006)
-
Pricing American options on risky assets in a stochastic interest rate economy
Amin, Kaushik I., (1991)
- More ...