Bank Regulatory Capital
This chapter provides a detailed understanding of the calculation of bank regulatory capital. Without such understanding, it would be difficult for a strategic equity practitioner to assess the merits or weaknesses of a specific transaction. At the time of writing this chapter, the Basel III framework had just been released and the regulatory treatment of some items was still undefined. Please refer to the full text of the proposal for further details. Strategic equity transactions can be devised to:
- Enhance the capital eligibility of financial instruments.
- Reduce the impact of deduction from capital of a specific item.
- And/or, reduce the capital consumption of a specific asset.
11.1 AN OVERVIEW OF BASEL III
11.1.1 Precedent Bank Regulatory Capital Accords
In this section I will cover a brief story of the Basel accords (see Figure 11.1). During the financial crises of the 1970s and 1980s, the large banks depleted their capital levels. In 1988, the Basel Supervisors Committee intended, through the Basel Accord, to establish capital requirements aimed at protecting depositors from undue bank and systemic risk. The Accord, Basel I, provided uniform definitions for capital as well as minimum capital adequacy levels based on the riskiness of assets (a minimum of 4% for Tier 1 capital, which was mainly equity less goodwill, and 8% for the sum of Tier 1 capital and Tier 2 capital). Basel I risk measurements related almost entirely to credit risk, perceived ...