Capital requirements are standardised regulations applied to depository institutions such as banks that determine how much liquid capital must be held in relation to their asset levels. These regulations, also known as regulatory capital, are set by agencies such as the Bank for International Settlements (BIS). Capital requirements are expressed as ratios and are based on the weighted risk of a bank’s various assets.

1. ROB TOLLEY
LONDON
CEO and Co-Founder of Global Specialty Underwriters
Financial Strategy: What Are Capital
Requirements?

2. Financial Strategy: What Are
Capital Requirements?
Capital requirements are standardised regulations applied to depository
institutions such as banks that determine how much liquid capital must be held in
relation to their asset levels. These regulations, also known as regulatory capital,
are set by agencies such as the Bank for International Settlements (BIS). Capital
requirements are expressed as ratios and are based on the weighted risk of a
bank’s various assets.
Tier 1 and Tier 2 Regulatory Capital
Experts such as Rob Tolley, CEO of Global Specialty Underwriters LLC,
understands that this tier of regulatory capital consists mainly of disclosed
reserves and shareholders’ equity. This represents the value paid up to originally
purchase the stocks or shares of the bank, retained profits (minus accumulated
losses) and other qualifiable Tier 1 capital securities.
Tier 2 capital – also known as supplementary capital – is made up of undisclosed
reserves, general provisions, revaluation reserves, hybrid instruments and
subordinated term debt.

3. Financial Strategy: What Are
Capital Requirements?
Capital Requirements Reporting
Once a business has been authorised by the Financial Conduct Authority (FCA) it
will receive a reporting schedule with details on how to report and record capital
requirements information. The FCA needs to know how the business’s
management structure works and how the business is run; there are different
reporting requirements for different firms.
Pros and Cons of Capital Requirements
The existence of capital requirements ensures that banks remain solvent and
avoid default, while also ensuring that depositors have access to their funds. They
also set industry standards and provide a means of comparing and evaluating
institutions.
On the negative side, capital requirements raise costs for banks, which tend to be
passed on to consumers and can inhibit a bank’s ability to invest. Furthermore,
capital requirements can reduce the availability of credit and loans.

4. Financial Strategy: What Are
Capital Requirements?
International Implementation
Experienced professionals like Rob Tolley (former London broker) understand that
regulators in different countries have some discretion regarding the
implementation of capital requirements in their jurisdiction. International
differences in implementation can vary significantly in terms of strictness. In EU
countries the capital requirements set out by the Base III agreement have been
implemented by the CRD IV package.
What Is the Difference Between Capital Requirements and Reserve Requirements?
Capital requirements specify how much capital a bank needs to hold, while
reserve requirements stipulate how much in liquid assets a bank must hold. While
capital requirements help soften losses on loans and other assets, reserve
requirements ensure banks can pay depositors and prevent a run on the
institution.