Credit risk comes from the risk of a counterparty not fulfilling its obligations towards the bank. Credit risk was recognized already under Basel I. Under Basel II, banks can use their internal estimates of default probabilities to determine their capital requirement.
There are a number of different approaches to estimating default probabilities: credit ratings, historical default probabilities, recovery rates, credit default swaps, and credit spreads are all used. It is also important to understand the difference between risk-neutral and real-world estimates of credit risk.
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The borrowers with a financing arrangement that is subject to variable interest rates can enter into an Interest Rate Swap to fix their interest liabilities so they are no longer exposed to changes in interest rates.
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