Another might capture the evolution of a shock to the economy caused, say, by changes in the terms of trade, which will affect the profitability of exporting industries and the level of government revenues and expenditures and, indirectly, the banking system. A third might capture some consequence of banks' incipient difficulties, say, a widening spread between deposit and lending rates. Often, fluctuations in indicator variables and the emergence of problems in the banking sector are both the product of some third, underlying influence. For example, banks may start rolling over loans to a loss-making industry and capitalizing interest in the hope of an eventual turnaround or bailout by the government. A rapid increase in loans to one sector may indicate that banks are resorting to such measures, which in the end are likely to result in large and explicit bank losses.
Useful indicators can come from various sources and relate to various aspects of the economy.
Some may come from the banking system itself and some from other sectors, while others may be macroeconomic. Banking sector indicators. The most obvious indicators that can be used to predict banking crises are those that relate directly to the soundness of the banking system. Items from banks' balance sheets or statements of revenue and expenses may make clear when risks are increasing and, thus, when problems are emerging. The primary direct indicator of banking sector soundness and the likelihood of difficulties is the level of bank capitalization , that is, the amount by which a bank's assets exceed its liabilities.