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Small Business Credit Scoring and Its Pitfalls: Evidence from Japan


  • This paper is the product of the research in the Study Group on Financial and Inter-firm Networks at the RIETI. Permissions to use RIETI's TSR data and to use Moody's KMV RiskCalc are gratefully acknowledged. The authors thank workshop participants at the RIETI, Hosei University, Keio University, and Japan Center for Economic Research, Mitsuhiro Fukao, Naoyuki Yoshino, Tsutomu Watanabe, Arito Ono, Wako Watanabe, and Iichiro Uesugi for helpful comments. Authors are supported by a research grant from the Institute for Sustainability Research and Education, Hosei University.

Address correspondence to: H. Hirata, Hosei University, 2-17-1 Fujimi, Chiyoda, Tokyo 177-0051, Japan. E-mail:


This paper studies the Japanese credit scoring market using data on 2,000 small and medium-sized enterprises and a small business credit scoring (SBCS) model widely used in the market. After constructing a model for determining a bank's profit maximization, some simulation exercises are conducted, and pitfalls of lending based on SBCS are indicated. The simulation results suggest that the reason why SBCS loan losses occur would be the combination of adverse selection and window-dressing problems. In addition, omitted variable bias and transparency of financial statements are important.