It is easier than ever to invest across international borders. Measuring the risk associated with a country’s banking system is often a key decision international investment decisions. Banking system z-scores are one way of measuring overall financial risk within a country’s banking system. The banking z-score captures the probability of default of a country’s banking system.
In general, the Z-score compares a bank’s buffers (capitalization and returns) with the volatility of those returns. The banking z-score for Honduras, Brazil, and Mexico is shown below.
Here is some recent research on measuring banking system risk.