Bank capital

Understand the idea

A bank’s assets include loans and securities; its liabilities include deposits and borrowings. If an asset loses value without a matching fall in liabilities, the loss reduces equity. Capital ratios compare eligible capital with an exposure measure, often risk-weighted assets. The regulatory definition and denominator determine what a particular ratio says about resilience.

An example

Suppose a simplified bank has J$100 million of assets, J$90 million of liabilities and J$10 million of equity. If a loan loss reduces assets by J$3 million and liabilities stay unchanged, equity falls to J$7 million. The capital absorbs that loss. If losses exceed the available buffer, protecting depositors and other creditors becomes much more difficult.

Sources

• BIS: definition of regulatory capital

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