![]() The literature emphasizes that institutional features of economies, such as the existence of deposit insurance and a market-determined interest rate structure, affect the profitability of banks and the incentives of bank managers to take on risk in lending operations. Much of the theory on banks’ vulnerability to adverse shocks focuses on the special role of banks in asset maturity and currency transformation in an uncertain world with asymmetric information. The commitment of additional funds by the Japanese Diet in 1998 to shore up the deposit insurance fund and recapitalize problem banks brings the cumulative fiscal cost to date (after seven years of banking problems) to about 12% of Japan’s GDP. thrift industry bailout in the 1980s at just over 3% of GDP. This same study puts the cost of resolution cost of the U.S. Estimates of the resolution costs of Argentina’s and Chile’s banking crises in the 1980s were over 40% of GDP (Caprio and Klingebiel 1996). Again, the range in fiscal costs is large. Direct government funds to recapitalize banks, shore up deposit insurance funds, and so on, amounted to a significant portion of output and a huge commitment of government budget resources–usually somewhere between 6-10% of GDP. Recent experience indicates that the ultimate costs of the East Asia financial crises also will likely be very large.Īnother cost is the fiscal cost associated with government efforts to solve the problems in the financial system. Countries such as Chile and Thailand in the early 1980s suffered severe output losses, amounting to over 25% of GDP over several years. These costs range widely across countries, of course. The great majority of countries have suffered recessions following episodes of banking sector distress, with the cumulative output loss associated with periods of banking sector distress averaging about 10% of GDP (Hutchison and McDill 1999). Banking crises are commonplace regardless of development status, but they occur with somewhat greater frequency in developing or emerging market economies than in industrialized economies.īanking crises generally impose significant costs on the economy. And they find the frequency is rising–nine crises were marked in 1975-80, 34 during 1991-95 and, by 1997, there were seven new and 29 continuing episodes. Using these measures, Glick and Hutchison (1999) find more than 94 episodes of banking sector distress in industrial and developing economies since the mid-1970s. Typical characteristics of a financial system under stress include a significant portfolio of nonperforming assets and a limited capital base. This Economic Letter discusses the common features associated with banking crises and whether distress signals may be identified before serious problems arise.įrequent and costly banking sector distressĪn episode of banking distress may be associated with depositor runs on banks, the closure or merger of financial institutions, or the extension of large-scale government assistance. But there may also be common features associated with episodes of banking sector distress identifiable across a large number of countries and cases. Of course, each banking crisis usually has idiosyncratic features that make it unique. If policymakers could identify the factors that lead to a higher likelihood of banking problems, they might be able to take steps to avert them. Such high costs make it desirable to have some form of early warning system of impending banking sector distress. The financial crises in Japan and East Asia have been costly they disrupted credit channels and curtailed economic activity not only in those countries but in other parts of the world as well. It is prepared under the auspices of the Center for Pacific Basin Monetary and Economic Studies within the FRBSF’s Economic Research Department. This series appears on an occasional basis. Frequent and costly banking sector distress.Early Warning Indicators of Banking Sector Distress ![]()
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