Example of Using CAR
Minimum capital adequacy ratios are critical in ensuring that banks have enough cushion to absorb a reasonable amount of losses before they become insolvent and consequently lose depositors' funds. For example, suppose bank ABC has $10 million in tier-1 capital and $5 million in tier-two capital.
What is capital adequacy ratio explain with example?
Definition: Capital Adequacy Ratio (CAR) is the ratio of a bank's capital in relation to its risk weighted assets and current liabilities. It is decided by central banks and bank regulators to prevent commercial banks from taking excess leverage and becoming insolvent in the process.
What is a good capital adequacy ratio?
Under Basel III, the minimum capital adequacy ratio that banks must maintain is 8%. 1 The capital adequacy ratio measures a bank's capital in relation to its risk-weighted assets.
How do you calculate capital adequacy?
The capital adequacy ratio is calculated as eligible capital divided by risk-weighted assets. Risk-weighted assets, or RWA, are used to link the minimum amount of capital that banks must have, with the risk profile of the bank's lending activities (and other assets).