A stable, well-functioning financial market for allA stable, well-functioning financial market for allFI Analysis 7: Leverage ratio as a minimum requirement reduces banks’ buffers
A leverage ratio requirement could contribute positively to financial stability during normal conditions in that it increases the robustness of banks' capital adequacy.
However, if the leverage ratio is designed as a minimum requirement, it could reduce the room that banks have to manage losses and reinstate capital before they breach the minimum requirements. This raises the risk that banks will breach the minimum requirements, which would weaken financial stability in stressed scenarios.
The leverage ratio is the relationship between banks' Tier 1 capital and total exposures. The Basel Committee is currently finalising a leverage ratio requirement under which the ratio must be at least 3 per cent. Analysis of the leverage ratio requirement to date has primarily focused on the requirement's effects under normal conditions. The aim of this FI Analysis is to highlight a perspective that has not received much attention, namely the effects of the requirement in stressed conditions following significant capital losses.
