Just like we need an adequate supply of capital in our normal lives (you know, cash to pay our bills, etc.), banks need to have an adequate supply in order to make loans and pay out interest to their customers. It's also rather important to have cash on hand when a customer wants to withdraw money from their account (Think: It's A Wonderful Life).
The capital adequacy ratio (CAR) is a key metric for banks. It measures the amount of available capital as a percentage of risk-weighted credit exposure (in other words, risky loans). The figure is used to protect depositors and ensure the viability of the banking system.
The ratios measure two types of capital: Tier 1 and Tier 2 (sounds like a Dr. Seuss book). Tier 1 capital is the type that is easily available and can absorb losses without the bank having to cease operating. Tier 2 capital can cushion losses if the bank is in the process of closing (winding up) and all the Tier 1 capital is gone.
To calculate the CAR, simply add Tier 1 and Tier 2 capital and divide by "risk weighted assets" (the bank's assets such as outstanding loans weighted according to risk.) This helps auditors check to see if there will be enough cash on hand so customer deposits are not lost if the bank fails. The higher the ratio, the safer a customer's deposits will be, while the minimum ratio that banks must maintain is only 8%.
Related or Semi-related Video
Finance: What is a Hard Asset?12 Views
Finance allah shmoop What is Ah hard asset Yeah It
takes a lot of hard work to get an asset
like that Okay So hard asset is just one that
you can bang on touch Engage with cell Alright examples
Oil it's Hard asset gold Hard of vintage nineteen Fifty
seven Ferrari with beige leather interior hard four thousand head
of longhorn cattle in texas A commercial building in the
best part of town All of these arm or less
commodities Hard assets Well okay Okay The categories Rare cars
art coins stamps stuff like that that's where they fit
So what do you care if something is ah hard
asset or a soft one Well most or all hard
assets are commodities and they generally do very well in
periods of very high inflation when you know stocks were
getting crushed And yeah the feds raising rates appoint a
quarter now forever Well equities and bonds will get crushed
Commodities well generally keep up with the spike in prices
causing the fed raised rates in the first place So
they're a good hedge for most investment portfolios And not
all of them are great forever like check out riel
Inflation adjusted oil prices the last few decades you had
not a good run Most not all do well though
an oil will likely have its day in the sun
again At some point you lan When in doubt remember
what kim kardashian and warren buffett said A good asset
is hard to find and a hard asset is good
to find But we won't tell you who said which
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