Emerging Practices for Capital Adequacy © Copyright 2003, CCRO. All rights reserved. 71 The Merton model uses the Black-Scholes pricing framework and its underlying assumptions. More specifically, it depends on a fixed model of capital and risk structure. It assumes that a corporation defaults at one point in time when equity value is below debt value. Assuming no transaction costs, it relies on equity prices to determine the corporation’s value and volatility, as well cross-company correlations. The model assumes that debt is constant over an infinite horizon. Despite these assumptions, this model has proved a good predictor of credit defaults, relative to other approaches.