The various systems differ in terms of the variables used to approximate the probability of failure for individual borrowers, the time horizons considered and the use of sectoral analyses. For many banks the reliability of the procedures adopted is closely linked to their ability to capture promptly any changes in a borrower’s solvency position.
Others, adopting a similar approach to that of rating agencies, prefer so-called “across-the-cycle” evaluations, which consider the borrower’s position in a hypothetical unfavourable phase of the economic cycle. A specific probability of failure can be assigned to each internal rating class either on the basis of the bank’s own experience or by using information published by rating agencies on the frequency of failures.