(f) Under Risk-premium Analysis, if the borrower increases its loan amount from 10 million to 100...

(f) Under Risk-premium Analysis, if the borrower increases its loan amount from 10 million to 100 million, the lending outcome is not impacted. Is this statement true or false? If this statement is true, please explain why banks are still using this method. If this statement is false, explain why.

Expert Solution

This statement is FALSE because under risk premium method when there would be an increase of loan amount from 10 million to 100 millions, it would mean that the risk related with such loan is increasing in nature at the perspective of the lender, because the buyer is more likely to default on such higher amount and the risk premium would be higher because there is higher exposure of these commercial bank onto these loans so it can be said that when there is an increase of loan from 10 million to 100 Millions on the upside, it would be an increase in the overall risk premium of the commercial bank and it should always be discounted by these banks and this Bank would be considering it, as the lending outcome is also impacted.

Banks are still using this method because this will be helping in determining the overall risk associated with specific loan and it will also help them in proactive adjustment of risk related to these loans.

jeff jeffy answered 2 years ago

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