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Bank Failures in Mature Economies

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Bank Failures in Mature Economies Basel Committee on Banking Supervision Working Paper No. 13 Bank Failures in Mature Economies April 2004 The Working Papers of the Basel Committee on Banking Supervision contain analysis carried out by experts of the Basel Committee or its working groups. They may also reflect work carried out by one or more member institutions or by its Secretariat. The subjects of the Working Papers are of topical interest to supervisors and are technical in character. The views expressed in the Working Papers are those of their authors and do not represent the official views of the Basel Committee, its member institutions or the BIS. Copies of publications are available from: Bank for International Settlements Information, Press & Library Services CH-4002 Basel, Switzerland Fax: +41 61 / 280 91 00 and +41 61 / 280 81 00 This publication is available on the BIS website (www.bis.org). © Bank for International Settlements 2004. All rights reserved. Brief excerpts may be reproduced or translated provided the source is stated. ISSN 1561-8854 Contributing authors Ms Natalja v. Westernhagen Deutsche Bundesbank, Frankfurt am Main Mr Eiji Harada Bank of Japan, Tokyo Mr Takahiro Nagata Financial Services Agency, Tokyo Mr Bent Vale Norges Bank, Oslo Mr Juan Ayuso Banco de España, Madrid Mr Jesús Saurina Banco de España, Madrid Ms Sonia Daltung Sveriges Riksbank, Stockholm Ms Suzanne Ziegler Schweizerische Nationalbank, Zurich Ms Elizabeth Kent Bank of England, London Mr Jack Reidhill Federal Deposit Insurance Corporation, Washington, D.C. Mr Stavros Peristiani Federal Reserve Bank of New York Table of Contents Introduction...............................................................................................................................1 The Herstatt crisis in Germany.................................................................................................4 Summary.........................................................................................................................4 Banking industry characteristics......................................................................................4 The case of Herstatt........................................................................................................5 The Japanese Financial Crisis during the 1990s .....................................................................7 Summary.........................................................................................................................7 The early stage, before mid-1994 ...................................................................................7 The beginning of the crisis, mid-1994 to 1996 ................................................................7 The financial crisis of 1997 .............................................................................................9 The financial crisis of 1998 ...........................................................................................10 Systematic management of the crisis, late 1998 to 2000..............................................11 Causes of the financial crisis in 1990’s .........................................................................12 The Banking Crisis in Norway ................................................................................................15 Summary.......................................................................................................................15 Prior to the crisis ...........................................................................................................15 Description of the crisis.................................................................................................20 Resolution of the banking crisis ....................................................................................21 Conclusions ..................................................................................................................25 Bank Failures in Spain ...........................................................................................................27 Summary.......................................................................................................................27 Prior to the crisis ...........................................................................................................27 Description of the crisis.................................................................................................28 Conclusions ..................................................................................................................31 The Swedish Banking Crisis...................................................................................................34 Summary.......................................................................................................................34 Prior to the crisis ...........................................................................................................34 Description of the crisis.................................................................................................37 Regulatory responses ...................................................................................................39 Conclusions ..................................................................................................................40 The Swiss Case .....................................................................................................................43 Summary.......................................................................................................................43 Banking industry characteristics....................................................................................43 Description of the crisis.................................................................................................44 The banking crisis .........................................................................................................46 Case Studies of UK Bank Failures.........................................................................................49 Summary.......................................................................................................................49 Bank of Credit and Commerce International.................................................................49 Small banks crisis .........................................................................................................51 Barings..........................................................................................................................53 The US Experience ................................................................................................................56 Summary.......................................................................................................................56 Prior to the crisis ...........................................................................................................56 The Savings and Loans crisis .......................................................................................58 Case studies of bank failures........................................................................................61 Continental Illinois National Bank: the pitfalls of illiquidity.............................................62 Bank of New England: the perils of real estate lending.................................................63 Bank failures after Basel I: the collapse of sub-prime lenders ......................................63 Conclusions ..................................................................................................................65 Summary of Bank Failures in Mature Economies ..................................................................66 Introduction Many highly developed economies that have sophisticated markets and long functioning banking systems have had significant bank failures or banking crises during the past 30 years. Central bankers fear widespread bank failures because they exacerbate cyclical recessions and may trigger a financial crisis. It is not surprising that these failure episodes have resulted in numerous legal and regulatory changes in the affected countries that were designed to decrease the probability of future bank failures and lessen the cost of the bank failures. Bank capital is meant to be a buffer during periods of economic instability and increasing capital levels or making capital more sensitive to the risks in banks should help stabilise the banking system, decreasing the incidence and cost of bank failures. A number of recent official working groups and academic studies have analysed the causes and policy responses to bank failure across countries.1 The Groupe de Contact (1999) examined the causes of banking difficulties in the EEA since the late-1980s.2 Evidence was based on (117) individual bank problems in 17 countries and national country reports from a few countries (France, the UK and the Scandinavian countries). The majority of banking difficulties were manifest as credit problems and sometimes as operational risk. Market risk was rarely a significant problem. Management and control weaknesses were significant contributory factors in nearly all cases. However, 90% of the banks reported capital ratios about the regulatory requirement when difficulties emerged.3 The internal report of the Groupe de Contact concluded that this suggested loss provisioning did not accurately reflected asset impairment and thus capital ratios were overstated. And
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