Question

Bank Capital

1. What is bank capital and why is it important?

2. Describe Basel I

3. Describe Basel II

4. Describe Basel III. What is the capital conservation buffer? Countercyclical Buffer?

Answer 1

1. Bank capital is the difference between the Asset and liabilities of the bank . This difference between the assets and liability represents the value of equity of the bank to investors.

Bank capital is important , because it helps in payings the customer , depositors and other claimants when the bank does not have enough liquidity.

Q2) Basel I is an International banking regulation, which prescribes the minimum amount of capital requirement, with a goal to minimize credit risk. As per Basel 1, Banks that operate internationally are classified on the basis of risk and are required to maintain 8% of minimum capital for emergency.

Q3) Basel II is an extention of minimum capital requirement regulation of Basel I . Basel II is based on three principles , which are minimum capital requirement , regulatory supervision and market discipline.Among the three minimum capital requirement plays the most important role.

Basel II divides the capital into three tiers, the higher the tier , the lesser the amount of risk involved. The second principle , regulatory supervision provides the framework to deal with different types of risk including liquidity risk and systemic risk. The third priciple makes sure that everything is disclosed properly.

Q4) Basel III takes into consideration the financial stability. The aim of Basel III is to provide a better and safer financial system. The bondholders get a better advantage of this regulation as the credit risk incurred by them is less and stockholders experience a better stability.

The capital conservation buffer is a capital buffer of 2.5% of bank's total exposure that needs to be kept over and above mandatory capital. It is buffer kept above 4.5% of minimum capital requirement.

Countercyclical buffer is created to protect the banking sector against losses that could be caused due to cyclical systemic risk. This buffer requires bank to add capital at times , so that when the cycle turns, their is less need of buffer.