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FRM Part II · FRM Exam Part II · Credit Scoring and Retail Credit Risk Management

A retail lender's credit scorecard excludes race, gender and religion as inputs. Regulators nonetheless find that approval rates for one protected group are much lower than for others, and the cause is a variable that closely proxies for group membership. Which fair lending concept does this finding describe?

This is disparate impact: a facially neutral variable that proxies for a protected characteristic produces materially worse outcomes for a protected group. It is not disparate treatment, because the prohibited attributes were not used explicitly or intentionally in the scorecard.

  1. ADisparate impact arising from a facially neutral variableCorrect
  2. BDisparate treatment through explicit use of a prohibited basis
  3. CAdverse selection from information asymmetry
  4. DReject inference bias in the development sample

Explanation

Disparate impact occurs when a neutral policy or variable produces disproportionately adverse outcomes for a protected group. Disparate treatment requires intentional differential treatment or explicit use of a prohibited characteristic, which is not the case since those inputs were excluded.

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