Tier 1

banking

Tier 1 or core capital It is a ratio that is used to measure the strength of a bank. It is made up of the basic capital, consisting mainly of ordinary shares. It may also include perpetual preferred shares and other investments of the bank.

The Tier 1 ratio is therefore the ratio of a bank's share capital to all of its risk-weighted assets. This quotient will provide us with a good approximation of the strength of the banks.

Therefore, the formula for its calculation is the following:

Tier 1 = Risk-weighted Equity / Assets

How an entity can improve Tier 1 capital

The Tier 1 of a bank can be increased in two possible ways:

  1. Through a capital increase: It is the best option to strengthen a bank against possible risks. True equity is expanded through shareholders. It has the disadvantage that it reduces the profit and the dividend per share.
  2. Through the issuance of preferred shares: A kind of shares are issued without voting rights. It is a very limited instrument that generates mistrust among consumers.

Basel III and Tier 1

The Basel III agreement obliges banks to increase their capital reserves to be protected against possible falls. This document also called for a greater capacity to absorb losses through equity instruments.

Thus, Basel III implies that the minimum Core Capital must increase to 7%. Minimum levels are also required in capital categories such as Additional Tier 1 at 1.5%, while Tier 2 should not be less than 2%.

On the other hand, 2.5% anti-cyclical capital buffers will be required that can be used in periods of economic recession. This measure should be carried out gradually between 2016 and 2018.

Tags:  history banks Business 

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