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Outline and explain the four essential characteristics used to define banks' regulatory capital. (4 marks)

Outline and explain the four essential characteristics used to define banks' regulatory capital.

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Answer #1

The four essential characteristics that are used to define banks' regulatory capital are:

1. A bank's regulatory capital is the capital a bank is required to maintain as authorized by its financial regulator like RBI.

2. It is expressed as a capital adequacy ratio of equity as a percentage of risk weighted assets. Capital requirements maintain the ratio of equity to debt.

3. In the Basel II requirements, bank capital is divided into 2 Tiers. Tier 1 capital comprises of shareholders' equity and disclosed reserves.

4. Tier 2 capital contains revaluation reserves, subordinated debt and undisclosed reserves.

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