Financial systems and development

Financial systems in distress
Not since the 1930s have so many firms in develop- By early 1989, 600 S&Ls, or one-fifth of all S&Ls,
ing countries been unable to service their debts. were still thought to be insolvent, and the loss to
Their difficulties are rooted in the international the S&L deposit insurance fund was expected to
shocks of the 1980s and their domestic aftermath total at least $120 billion. Among commercial
and in the policies that governments have pursued banks the failure rate rose from ten a year during
over the past thirty years. The inability of firms to the 1970s to more than 150 a year in the late 1980s.
service debt has caused distress for many financial In early 1989 about 10 percent of commercial banks
institutions. In some countries incipient financial were on the regulators' "watch list."
crises forced the government to assist troubled Cases like these are spectacular, but much finanbanks.
In others, although there has been no crisis, cial distress remains hidden. Because intermedibanks'
losses are large enough to require govern- aries have rolled over unpaid loans and have capiment
intervention. Failure to take action is costly. talized unpaid interest, their insolvency is not
With delay, losses mount and so does the cost of apparent from their accounts. Accounting inforrestructuring.
In all, more than twenty-five gov- mation may be kept confidential, and what is availernments
have helped distressed financial institu- able is often unreliable. Where audits have been
tions during the past decade. Much has been made using generally accepted accounting princilearned
from these measures.
ples, nonperforming loans have proved to be sub-
In 1981 the Chilean government liquidated three stantial. In nearly all instances of government incommercial
banks, four finance companies, and a tervention, intermediaries' actual losses have
development bank. Together these accounted for proved to be far larger than reported. The number
more than one-third of all loans made by the finan- of bad and doubtful loans in the portfolios of many
cial system. Fourteen months later the authorities institutions is such that expected losses exceed the
intervened again. They placed eight institutions, sum of capital, reserves, and loss provisions; these
which accounted for nearly half of all loans, under institutions are technically insolvent.
central bank management and extended financial If reliable information were available, countries
support to all but one of the remaining commercial could be ranked according to the share of nonperbanks.
forming loans in banks' total assets. At one end of
In the United States more than 1,000 savings and the range would be countries in which nearly all
loan associations (S&Ls) were closed or merged intermediaries are profitable and solvent and nonwith
sounder institutions between 1980 and 1988. performing loans amount to only 1 or 2 percent of
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