Why Risk Based Capital Requirements Fail in Practice

We’ve already seen that the risk based approach does not work. It’s obvious that neither man nor model can adequately assess a given asset’s risk under all circumstances before the fact. It doesn’t make sense to spend a lot of time trying. It does make sense to have a minimum leverage ratio but it should be the same for banks of all sizes.”

(Thomas Brown, A Loss of liquidity, not inadequate capital, is what often dooms banks. Bankstocks.com, April 22, 2014)

The leverage, net worth ratio, is the current credit union capital model. Risk based capital formulae should be tools, not a rule.

The immediate vulnerability for the credit union system at this time is the absence of the CLF-Corporate liquidity safety net.  Liquidity allows fluctuations in asset values to recover rather than selling during market disruptions and taking losses that reduce capital.

Leave a Reply

Your email address will not be published. Required fields are marked *