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how does banks adjust capital ratio? Does it have to do with ROA, ROE, and equity...

how does banks adjust capital ratio? Does it have to do with ROA, ROE, and equity multiplier? Please explain, it's for my finance class. thank you!!

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Answer #1

Bank adjust capital ratio based on Basel Norms where they maintain Tier 1 capital at minimum 6%.
Banks gives loans to different sectors and allocates risk weights to it. Banks have to keep 6% of these risk weighted assets. This insulates the banks during recession or financial stress. It is the core equity level which banks have to maintain.

Banks don't use ROA,EOE and equity multiplier to calculate Capital ratio or adjust . Rather it is mandatory to keep it at 6%.

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