We present the first application of federated learning (FL) to the U.S. National Financial Capability Study, introducing an interpretable framework for predicting consumer financial distress across all 50 states and the District of Columbia without centralizing sensitive data. Our cross-silo FL setup treats each state as a distinct data silo, simulating real-world governance in nationwide financial systems. Unlike prior work, our approach integrates two complementary explainable AI techniques to identify both global (nationwide) and local (state-specific) predictors of financial hardship, such as contact from debt collection agencies. We develop a machine learning model specifically suited for highly categorical, imbalanced survey data. This work delivers a scalable, regulation-compliant blueprint for early warning systems in finance, demonstrating how FL can power socially responsible AI applications in consumer credit risk and financial inclusion.

International Journal of Applied Mathematics Volume 38 No. 5 s, 2025 ISSN: 1311 - 1728 (printed version); ISSN: 1314 - 8060 (on - line version) Received: August 0 7, 2025 550 Abstract The growing instability of both global and domestic economic environments has increased the risk of financial distress at the household level. However, traditional econometric models often rely on delayed and aggregated data, limiting their effectiveness. This study introduces a machine learning - based early warning system that utilizes real - time digital and macroeconomic signals to identify financial distress in near real - time. Using a panel dataset of 750 households tracked over three monitoring rounds spa nning 13 months, the framework combines socioeconomic attributes, macroeconomic indicators (such as GDP growth, inflation, and foreign exchange fluctuations), and digital economy measures (including ICT demand and market volatility). Through data preproces sing and feature engineering, we introduce lagged variables, volatility measures, and interaction terms to capture both gradual and sudden changes in financial stability. We benchmark baseline classifiers, such as logistic regression and decision trees, ag ainst advanced ensemble models including random forests, XGBoost, and LightGBM. Our results indicate that the engineered features from the digital economy significantly enhance predictive accuracy. The system performs reliably for both binary distress dete ction and multi - class severity classification, with SHAP - based explanations identifying inflation volatility and ICT demand as key predictors. Crucially, the framework is International Journal of Applied Mathematics Volume 38 No. 5 s, 2025 ISSN: 1311 - 1728 (printed version); ISSN: 1314 - 8060 (on - line version) Received: August 0 7, 2025 551 By implementing machine learning in a transparent and interpretable manner, this study demonstrates the feasibility and impact of providing near - real - time early warnings of financial distress. This offers actionable insights that can strengthen household resilience and guide preemptive intervention strategies. Keywords: Financial Distress, Early Warning Systems, Machine Learning, Digital Economy, Temporal Classification, Explainable AI 1. Introduction 1.1 Background and Motivation The prediction of financial distress has long been recognized as a critical element for ensuring economic resilience and mitigating systemic risk across households, firms, and national economies.

Financial distress of municipalities, although comparable to bankruptcy of private companies, has a far more serious impact on the well-being of communities. For this reason, it is essential to detect deficits as soon as possible. Predicting financial distress in municipalities can be a complex task, as it involves understanding a wide range of factors that can affect a municipality's financial health. In this paper, we evaluate machine learning models to predict financial distress in Italian municipalities. Accounting judiciary experts have specialized knowledge and experience in evaluating the financial performance, and they use a range of indicators to make their assessments. By incorporating these indicators in the feature extraction process, we can ensure that the model is taking into account a wide range of information that is relevant to the financial health of municipalities. The results of this study indicate that using machine learning models in combination with the knowledge of accounting judiciary experts can aid in the early detection of financial distress, leading to better outcomes for the communities.

Financial Distress Prediction plays a crucial role in the economy by accurately forecasting the number and probability of failing structures, providing insight into the growth and stability of a country's economy. However, predicting financial distress for Small and Medium Enterprises is challenging due to their inherent ambiguity, leading to increased funding costs and decreased chances of receiving funds. While several strategies have been developed for effective FCP, their implementation, accuracy, and data security fall short of practical applications. Additionally, many of these strategies perform well for a portion of the dataset but are not adaptable to various datasets. As a result, there is a need to develop a productive prediction model for better order execution and adaptability to different datasets. In this review, we propose a feature selection algorithm for FCP based on element credits and data source collection. Current financial distress prediction models rely mainly on financial statements and disregard the timeliness of organization tests. Therefore, we propose a corporate FCP model that better aligns with industry practice and incorporates the gathering of thin-head component analysis of financial data, corporate governance qualities, and market exchange data with a Relevant Vector Machine. Experimental results demonstrate that this strategy can improve the forecast efficiency of financial distress with fewer characteristic factors.

And there are few fields where AI is driving innovation as quickly as in the thriving fintech sector, an area in which Scotland is rapidly building a world class reputation. Financial institutions of all sizes are developing and implementing advanced AI systems designed to pick up and prevent financial distress among customers. This includes the likes of Royal Bank of Scotland, which recently opened a research unit dedicated to solving real-world problems with data-driven innovation. In its broadest definition, AI has been with us since the advent of machine learning in the 1950s. But today's tech, based around systems capable of not just holding data but understanding and interpreting it intelligently, opens up a world of possibilities. There are two main reasons why AI is now coming to the fore, explains Stephen Ingledew of FinTech Scotland: "The first is the power of technology to manage a huge amount of data and understand it.