International banking regulation and Tier 1 capital ratios. On the robustness of the critical average risk weight framework

Renaud Beaupain and Yann Braouezec

International Review of Financial Analysis, 2024, vol. 91, issue C

Abstract: Under Basel III, the current international banking regulation, banks must maintain two Tier 1 capital ratios that treat risky assets differently. The Basel Committee uses the critical average risk weight (CARW) framework developed by the Bank of England to determine which ratio is the binding constraint. This methodology, which implicitly assumes that each asset is subject to a uniform shock, consists in comparing the implied average risk weight of a bank to a regulatory critical threshold. Using a stress test approach, we examine whether, and under which conditions, the CARW framework identifies the correct binding capital ratio. We find important errors that are attributable to a series of simplifying assumptions made by the regulator. We finally generalize the methodology used by the Basel Committee and show how our stress-test approach can be used to determine which ratio is binding when only a (single class of) asset(s) is shocked.

Keywords: International banking regulation; Leverage ratio; Risk-based capital ratio; Critical average risk weight framework; Stress-test framework (search for similar items in EconPapers)
JEL-codes: G21 G32 G38 (search for similar items in EconPapers)
Date: 2024
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S1057521923005410
Full text for ScienceDirect subscribers only

Related works:
Working Paper: International banking regulation and Tier 1 capital ratios. On the robustness of the critical average risk weight framework (2024)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:eee:finana:v:91:y:2024:i:c:s1057521923005410

DOI: 10.1016/j.irfa.2023.103025

Access Statistics for this article

International Review of Financial Analysis is currently edited by B.M. Lucey

More articles in International Review of Financial Analysis from Elsevier
Bibliographic data for series maintained by Catherine Liu ().