The influence of the business cycle on bankruptcy probability

Two fields of research on default prediction are combined on a unique dataset covering all limited liability firms in Norway. This is done by empirically testing a bankruptcy prediction function where unlisted firms are evaluated on the basis of both their financial statement analysis and movements in the business cycle. This combination is found to improve the default prediction compared with financial statements alone. The GDP gap, a production index and the money supply M1 in combination with some financial health indicators for individual firms are found to be significant predictors on default for Norwegian firms during both recovery and expansion in the 1990s.