What is credit risk?

Credit risk refers to the risk that a borrower will default on any type of debt by failing to make required payments. In the context of financial transactions, it specifically relates to the likelihood that a party will be unable to meet its financial obligations—such as repaying a loan or credit extended. This concept is crucial for lenders, investors, and financial institutions as it helps them assess the potential for loss due to a borrower’s inability to meet repayment terms. By understanding a borrower’s creditworthiness, lenders can make informed decisions regarding loan approvals, interest rates, and terms of repayment.

The other choices do not accurately reflect this definition. While the likelihood of receiving a credit card might relate to an individual's creditworthiness, it does not encapsulate the broader concept of credit risk. Similarly, the interest rate applied to a loan is a pricing mechanism, and the total credit amount available is more about credit limits than about the risk of default. Understanding credit risk allows stakeholders to manage potential losses effectively.