tailieunhanh - Appraising Credit Ratings: Does the CAP Fit Better than the ROC?

The US dollar appreciated by roughly 25% with respect to the euro and Swiss franc in the five months following the collapse of Lehman Brothers, and by even more against many other currencies during this period. Unless accounted for, exchange rate movements of this size severely distort credit growth rates for those economies where credit stocks have large foreign currency components. Moreover, they complicate the construction of regional and global credit aggregates (and growth rates), which requires that credit to borrowers in different countries be expressed in a common currency | WP 12 122 Appraising Credit Ratings Does the CAP Fit Better than the ROC R. John Irwin and Timothy C. Irwin INTERNATIONAL MONETARY FUND 2012 International Monetary Fund WP 12 122 IMF Working Paper FAD Appraising Credit Ratings Does the CAP Fit Better than the ROC Prepared by R. John Irwin and Timothy C. Irwin Authorized for distribution by Marco Cangiano May 2012 This Working Paper should not be reported as representing the views of the IMF. The views expressed in this Working Paper are those of the author s and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author s and are published to elicit comments and to further debate. Abstract ROC and CAP analysis are alternative methods for evaluating a wide range of diagnostic systems including assessments of credit risk. ROC analysis is widely used in many fields but in finance CAP analysis is more common. We compare the two methods using as an illustration the ability of the OECD s country risk ratings to predict whether a country will have a program with the IMF an indicator of financial distress . ROC and CAP analyses both have the advantage of generating measures of accuracy that are independent of the choice of diagnostic threshold such as risk rating. ROC analysis has other beneficial features including theories for fitting models to data and for setting the optimal threshold that we show could also be incorporated into CAP analysis. But the natural interpretation of the ROC measure of accuracy and the independence of ROC curves from the probability of default are advantages unavailable to CAP analysis. JEL Classification Numbers G24 Keywords Credit ratings Receiver Operating Characteristic ROC Cumulative Accuracy Profile CAP . Authors E-Mail Addresses tirwin@ 2 Contents Page I. II. An Illustration OECD Risk Ratings as Predictors of Borrowing from the A. Cumulative Accuracy Profile CAP .5