The UK's small banks' crisis of the early 1990s: what were the leading indicators of failure?

Working Paper no. 139
By Andrew Logan

The announcement of BCCI’s closure on 5 July 1991 rapidly accelerated the withdrawal of wholesale funds from small and medium-sized UK banks. Within three years, a quarter of the banks in this sector, had in some sense, failed. This study employs a logit model to analyse at two points prior to the crisis the distinct characteristics of the banks that failed compared with those that survived. Perhaps not surprisingly, a number of measures of bank weakness — low loan growth, poor profitability and illiquidity — are found to be good short-term predictors of failure, as are a high dependence on net interest income and low leverage. The best longer-term leading indicator of future failure, however, is rapid loan growth at the peak of the previous boom.

The United Kingdom’s small banks’ crisis of the early 1990s: what were the leading indicators of failure?