Suspected Mistake in Spreasheet 7.d.1 (capital adequacy ratio)

Discussion in 'P2.T7. Basel II & Regulatory' started by Liming, Oct 21, 2009.

  1. Liming

    Liming New Member

    Dear David,o

    I suspect that there is mistake made with spreadsheet 7.d.1 when you calculate the total tier 1 capital and the capital adequacy ratio. I think similar to tier 2 and tier 3 capital calculation, tier1 capital should be 300+100+400 = 800, instead of 900 in your original answer. And this makes the capital ratio = 8% not 8.55%.

    Thank you.

  2. David Harper CFA FRM

    David Harper CFA FRM David Harper CFA FRM (test) Staff Member

    Hi Liming,

    The tier 1 is different in the respect that it is not limited; e.g., Tier 2 cannot exceed Tier 1 and notice some of the Tier 3 is unused b/c it can only be used for market risk and can only be 2.5 of Tier 1.
    ... so all of the "available" Tier 1 counts toward the adequacy ratio. It is high quality; e.g., if the example only had Tier 1, then it could be used for everything and the ratio could have no limit as Tier 1 / RWA
    ...we might think of it in reverse to the way it is shown: all of the Tier 1 is counted, and then it is a matter of what fraction of Tier 2 & Tier 3 are counted

    Thanks, David
  3. David Harper CFA FRM

    David Harper CFA FRM David Harper CFA FRM (test) Staff Member

    ...I did not express very well. The "logic" of the XLS (and the eligible capital) is:

    1. how much Tier 3 can be used? Since only for market risk and limit 2.5x Tier 1 and MRC = 350, most of Tier 3 that can be used = 250
    (i.e., x + 2.5X = 350, so x = 100 = tier 1)
    2. how much Tier 2 can be used? since limit is 1x Teir 1, can use limit of 300 for CRC ... but only 100 remains ... so Tier 2 = 300 for CRC and 100 for ORC...Tier 2 fully used
    3. The rest is Tier 1 and can be used entirely

    hope that helps, David
  4. hsuwang

    hsuwang Member

    Hello David,

    I think cell L13 (Tier 1) should be the sum of all L1 capital used, which is 300(credit)+100(market)+400(operation) = 800 instead of the 900 you showed in cell L13. Or we are not simply adding how much Tier 1 capital we have used, but how much is available?

  5. David Harper CFA FRM

    David Harper CFA FRM David Harper CFA FRM (test) Staff Member

    Hi Jack,

    I think that is tempting, but (and I am consistent with Jorion Table 29.4 in the handbook well, because, let's face it, I built it from that table!) ... 300+ 100+400 = the minimum Tier 1 capital that is required to cover the three risks. But the extra $100 Tier 1 still accrues to capital adequacy; it is not needed but it is "eligible buffer" ... it can be used for any of the categories (unlike Tier 2 & 3)...

    put simply, all Tier 1 counts ... the exercise can be viewed as necessary only b/c T2 & T3 have constraints.


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