This activity then begets more complex rules that markets once again seek to avoid. Consider the increasing complexity and granularity of the Basel risk-weighting classifications.
The logic of assessing capital requirements based on the risk of an institution’s assets is sensible in principle; however, it creates incentives for institutions to structure assets in ways that minimize the use of capital, perhaps resulting in risks that become hidden in opaque or complex structures that are not addressed by specific rules or classifications found in the Basel framework.