Emerging Practices for Capital Adequacy © Copyright 2003, CCRO. All rights reserved. 29 5.3 Distribution of Portfolio Credit Losses to Calculate Economic Capital The most challenging aspect of the credit economic capital calculation is generating the distribution of portfolio credit losses. In this section, we lay out key elements that should ideally be considered in its derivation. However, the CCRO recognizes that not all organizations currently have—or need—the analytical infrastructure required to incorporate all these elements, so that simplifications and omissions may have to be made in its implementation. It is understood that credit migration will affect the calculation of economic capital. This topic was discussed in detail in Section 6 of the CCRO’s white paper “Credit Risk Management.” 5.3.1 Elements in Generating Portfolio Expected Loss The elements that go into the generation of expected loss by counterparty are outlined in Figure 15 and described below. Note that the portfolio expected loss can be obtained by taking the sum of expected losses across all counterparties. As indicated in Figure 14, the portfolio expected loss also corresponds to the mean of the distribution of portfolio credit losses. Figure 15: Elements in Generating Expected Loss by Counterparty Netting and Credit Enhancements Accounts Receivable Unbilled Receivables Mark-to-Market Current Exposure by Counterparty Potential Future Exposure (PFE) by Counterparty Distribution of Exposures by Counterparty Loss Given Default (LGD) by Counterparty Expected Default Probability (EDP) by Counterparty Expected Loss by Counterparty Netting and Credit Enhancements Projected Change in A/R Projected Change in Unbilled Receivables Mark-to-Market Distribution