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Risk-Based Capital Ratios at US Banks

Capital levels offer a glimpse into the health of the banking system. Capital is what remains when a bank's liabilities are subtracted from its assets. Higher capital levels signal that a bank has a higher buffer against a drop in the value of its assets. Banks with higher capital levels are healthier and more prepared to weather a downturn.

Tier-1 risk based capital is the ratio of a bank's "core capital" to its risk-weighted assets. Bank capital can be defined in many ways, and this ratio takes a rather restricted look at it. Risk-weighted assets are constructed by assigning different weights to assets with different levels of risk and summing the totals. The tier-1 risk-based-capital ratio measures how much buffer a bank has as a percentage of its riskiness. We focus on this particular ratio because it excludes more "exotic" elements from the calculation of capital and so serves as a better approximation of an adequate capital ratio.

Here we analyze the tier-1 risk-based capital at banks of different sizes. We look at banks with less than $100 million in assets up to banks with more than $10 billion and compare their capital levels to levels regulators deem sufficient. While regulators judge the overall health of a bank using many criteria, here we focus only on what they deem sufficient for this ratio. Regulators consider banks well-capitalized when this ratio is 6 percent or greater, adequately capitalized when it is 4 percent or more, undercapitalized below 3 percent, and critically undercapitalized at 2 percent or below.

In 2013, both components of the tier 1-risk-based capital ratio experienced an uptick. Average tier-1 capital at banks went up, but so did the riskiness of their assets, as measured by the risk-weighted assets.

Tier-1 Capital and Risk-Weighted Assets

Meanwhile, tier-1 risk-based capital ratios stayed level for banks with assets between $100 million and $1 billion in 2013 and decreased very slightly for banks in the remaining categories. Ratios have been improving since they bottomed out during the crisis, and as of 2013, they are higher than they were before the crisis for all but the largest banks.

Average Tier-1 Risk-Based Capital Ratio

We next look at the data underlying these averages (the cross-section of banks). Averages might be deceiving; the average might be high because it is very high for some banks, even though it is low for many. The cross-section reveals the distribution of banks and allows us to judge if the average is skewed by a few outliers. A look at individual banks in each of the four size categories shows that more than 95 percent carry ratios over 10 percent, well above the 6 percent level deemed well-capitalized by regulators. This shows that most banks prefer to hold tier-1 levels of capital well above those required and that this holds not only for the largest banks, but also for banks of all sizes.

Tier-1 Risk-Based Capital Ratio Distribution: Depository Institutions with Less than $100 Million in Assets
Tier-1 Risk-Based Capital Ratio Distribution: Depository Institutions with $100 Million-$1 Billion in Assets
Tier-1 Risk-Based Capital Ratio Distribution: Depository Institutions with $1 Billion-$10 Billion in Assets
Tier-1 Risk-Based Capital Ratio Distribution: Depository Institutions with over $10 Billion in Assets

Banks have been increasing their tier-1 risk-based capital ratios since the crisis. During 2013, ratios stayed level or fell slightly, but the significant gains achieved since the financial crisis have been preserved. Most banks now have capital ratios that are much higher than regulators require.

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