Impact of Risk-Based Loan Pricing on CU Credit Availability and Risk

Credit unions are increasingly employing risk-based loan pricing models.

A 2018 paper in the Journal of Empirical Finance, Risk-based Loan Pricing Consequences for Credit Unions, examines whether risk-based pricing increases the availability of loans, particularly for high-risk borrowers.

The study uses credit union data obtained from fourth quarter call reports published by the National Credit Union Administration over the period from 2006 through 2015.

The paper found that credit unions that adopt risk-based loan pricing strategies:

• are larger,
• have lower net worth ratios,
• are more dependent on fee income, and
• have higher loan interest rates.

Also, credit unions with a more traditional deposit mix, which is dominated by regular shares, are less likely to adopt risk-based loan pricing strategies.

Data on the number of loans per credit union member and loan delinquency rates are used to analyze loan access and average risk-levels, respectively.

The authors, Walke, Fullerton, and Tokle, contend that the number of loans issued is a better measure of loan availability than the dollar value of loans.

The study found that risk-based pricing adopters increase the availability of loans relative to otherwise similar non-adopters.

However, delinquency rates were somewhat lower for adopters of risk-based pricing compared to matched non-adopters. This finding appears to be at odds with a priori expectations.

The authors conclude that the lower delinquency rate at risk-based pricing adopters suggests that the increased availability of loans went to lower risk borrowers.

The authors posit that risk-based pricing results in charging higher interest rates to riskier borrowers, which might suppress loan demand by this group of borrowers, and charging lower interest rates to less risky borrowers, which would increase the demand for loans by this group.