In non-financial companies, shareholder capital or equity is used to finance the acquisition of assets. The same is true for banks. Equity finances the provision of loans to households and companies. In that sense, additional capital supports lending by banks and does not substitute for it. Higher capital ensures that enough of the finance raised by banks is in a form that is capable of absorbing losses without the banks going bust. Much of the discussion on capital is couched in terms of a ratio to risk-weighted assets. But another more basic yardstick of a bank’s ability to withstand losses is the leverage ratio. This is simply the bank’s capital expressed as a proportion of its assets. So a further test that we should consider is whether banks are making acceptable progress towards the Basel 3 minimum leverage ratio. Basel 3 requires that banks have leverage ratios in excess of 3%. In asking banks to have a larger share of equity on their balance sheet, we are for the most part dealing with legacy issues. The whole point of this exercise is to move more rapidly to put the past and its problems behind us. This emphasis on legacy explains why it is possible to want more capital to back old risks while easing the capital requirements on new lending to the real economy. Frankly, this is about convincingly putting the past behind us. We have not yet released numbers on the capital requirements for each bank.
Andrew Bailey: Challenges of prudential regulation Speech by Mr Andrew Bailey, Deputy Governor of Prudential Regulation and Chief Executive Officer of the Prudential Regulation Authority at the Bank of England, at the Society of Business Economists Annual Dinner, London, 3 June 2013. *  *  *  Thank you for inviting me this evening – it is a great pleasure to have this opportunity and particularly at a time when we are embarking on major reforms to policymaking in the area of financial regulation. The financial crisis has provided hard lessons on what happens when the stability of the financial system is found wanting. It has reminded us how much we depend upon the supply of critical services from banks, insurers, investment firms, asset managers and other parts of the financial sector. If you take the banks as Exhibit One, there is good reason to curse them, but at the same time recent experiences have only served to emphasise how much we depend upon them, like it or not. The new legislation on financial regulation in the UK emphasises the importance of the continuity of supply of critical financial services. This is a permanent public policy objective, and rightly so. I use the term “permanent” deliberately to distinguish this objective from the support provided by Too Big / Important to Fail, which should not be permanent.