Banks urged to increase their core capital ratio

This decision will strengthen banks’ risk resilience in the face of unexpected losses: BB

People taking services at a branch of a bank in Dhaka. The central bank has ordered banks to maintain at least 3.25% Tier 1 capital, also known as the leverage ratio, in 2023 and increase it to 4% in 2026. Photo: Star / file

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People taking services at a branch of a bank in Dhaka. The central bank has ordered banks to maintain at least 3.25% Tier 1 capital, also known as the leverage ratio, in 2023 and increase it to 4% in 2026. Photo: Star / file

The central bank yesterday asked banks to increase their core capital ratio to 3.25% in 2023 after failing to build enough capital and reserves in line with international standards to absorb unexpected shocks.

In 2014, the Bangladesh Bank issued guidelines on risk-based capital adequacy for banks in accordance with the Basel III Accord, the main banking regulation that sets the minimum capital ratio requirement. Category 1 for financial institutions.

The BB has ordered banks to maintain by 2015 at least 3% Tier 1 capital, also known as the leverage ratio, in order to strike a balance between capital and assets.

Level 1 capital is used to describe a bank’s capital adequacy and refers to capital base which includes equity and disclosed reserves.

It ensures that a bank has sufficient capital reserves to absorb losses, thereby promoting both transparency and financial discipline among banking institutions and protecting taxpayers from exposure to losses.

The leverage ratio is calculated by dividing Tier 1 capital by the total exposure.

Although the banking industry implemented Basel III in 2019, the leverage ratio, as well as the risk-based capital adequacy ratio, has not increased proportionately, the BB said in an opinion yesterday.

Raising the leverage ratio to the expected level will help banks reduce their import spending in foreign trade, he said.

This will lead to a qualitative increase in the capital base of banks, according to the opinion.

“As a result, it will strengthen the risk resilience of banks against unexpected losses and strengthen the stability of the financial sector.”

Banks will have all of 2022 to prepare to increase the leverage ratio. They will increase the ratio by 25 basis points each year until 2026 to reach 4%.

The current ratio is 3%.

Ahsan H Mansur, executive director of the Policy Research Institute of Bangladesh, said banks with a lower capital base would struggle to meet the target.

So owners of weak banks should either inject equity or banks should keep profits instead of distributing them among shareholders as dividends in order to strengthen the core capital base, he said. .

He said banks with a capital adequacy ratio (CAR) of 15-16% would be able to meet the core capital target.

Banks in Bangladesh maintained an (CAR) of 11.60 percent last year, according to data from BB.

This is much less than 18.6% in Pakistan, 16.5% in Sri Lanka and 15.8% in India.

The CAR, also known as the risk-weighted capital-to-asset ratio, measures the financial strength of a bank using its capital and assets.

Mansur said there were banks that weren’t doing well in 2020. But they still announced dividends.

“As a result, their base capital has not received any boost. If base capital is not strengthened, banks will naturally remain weak,” said the former head of the International Monetary Fund.

He called on the central bank to pay attention to the application of the directive and to strengthen supervision.

Syed Mahbubur Rahman, managing director of Mutual Trust Bank, said some banks could expand their assets, without respecting their capital. Thus, the central bank had taken steps to ensure that banks’ assets grew in line with their capital.

“It means you can’t be overexposed and your balance sheet has to be strong.”

Sallie R. Loera