FINS3650 · International Banking
Basel III Capital and Liquidity
This is the quantitative core of the course. It works the Basel III capital stack (CET1, AT1, Tier 2) and minimum ratios (CET1 ≥ 4.5%, Tier 1 ≥ 6%, Total ≥ 8%) plus the capital-conservation, countercyclical and G-SIB buffers, and risk-weighted assets; then the liquidity and leverage measures — the Liquidity Coverage Ratio (HQLA over 30-day stressed net outflows), the Net Stable Funding Ratio, and the ≥ 3% leverage ratio. These are the most reliably examined calculations on the paper and underpin the Pillar 3 disclosures banks publish.
What this chapter covers
- 01The capital stack: CET1 (common equity, ≥ 4.5%), AT1 (hybrids/CoCos), Tier 1 (CET1+AT1 ≥ 6%), Tier 2 (subordinated debt), Total capital ≥ 8% of RWA
- 02Buffers met with CET1: capital-conservation buffer 2.5%, countercyclical buffer 0–2.5%, G-SIB higher-loss-absorbency surcharge; breach → distribution constraints
- 03Risk-weighted assets (RWA) and the revised standardised approach (ratings-based and LTV-based weights); the 72.5% output floor
- 04Leverage ratio = Tier 1 ÷ total exposure measure ≥ 3% — the non-risk-weighted backstop (plus the G-SIB leverage buffer)
- 05Liquidity Coverage Ratio (LCR) = HQLA ÷ net 30-day stressed outflows ≥ 100%, including the 75%-of-outflows cap on inflows
- 06Net Stable Funding Ratio (NSFR) = available stable funding ÷ required stable funding ≥ 100% over one year
- 07Off-balance-sheet credit-conversion factors and how short-term trade LCs (20% CCF) enter RWA
- 08Pillar 3 disclosure (ANZ / APRA APS330) as where these ratios are reported to the market
LCR and the leverage ratio: does the bank pass?
- +1Apply the inflow cap: recognised inflows are the lesser of actual inflows and 75% of gross outflows. 75% × 168 = 126; actual inflows 60 < 126, so use 60. Net 30-day outflows = 168 − 60 = 108.
- +1LCR = HQLA ÷ net 30-day stressed outflows = 105 ÷ 108 = 97.2%. This is below the 100% minimum, so the LCR fails — the bank would not fully survive the modelled 30-day stress on its own liquid assets.
- +1Leverage ratio = Tier 1 ÷ total exposure measure = 72 ÷ 2,000 = 3.6%. This clears the 3% minimum, so the non-risk-weighted backstop passes.
- +1Verdict: the leverage ratio passes (3.6% ≥ 3%) but the LCR fails (97.2% < 100%). The bank needs more HQLA (or lower stressed net outflows) to meet the liquidity standard — a capital backstop does not fix a liquidity shortfall.
Key terms
- CET1 / AT1 / Tier 2
- The Basel III capital stack. CET1 (common equity + retained earnings) is the highest-quality going-concern capital (≥ 4.5% of RWA); AT1 (hybrids such as CoCos) tops Tier 1 to ≥ 6%; Tier 2 (subordinated debt) is gone-concern capital, taking Total capital to ≥ 8%.
- Capital-conservation buffer
- An extra 2.5% of RWA that must be held in CET1 on top of the minima; breaching it does not close the bank but triggers automatic constraints on dividends, buybacks and bonuses (a minimum capital-conservation ratio) until it is rebuilt.
- Leverage ratio
- Tier 1 capital ÷ total (non-risk-weighted) exposure measure, with a ≥ 3% minimum; a simple backstop that constrains a bank even if its risk-weighted ratios look strong. G-SIBs carry an additional leverage buffer equal to 50% of their risk-weighted surcharge.
- Liquidity Coverage Ratio (LCR)
- HQLA ÷ total net cash outflows over a 30-day stress, required to be ≥ 100%; recognised inflows are capped at 75% of gross outflows, so net outflows are at least 25% of gross. It tests survival of a short, sharp liquidity stress.
- Net Stable Funding Ratio (NSFR)
- Available stable funding ÷ required stable funding, required to be ≥ 100% over a one-year horizon; the structural, longer-term companion to the LCR, discouraging over-reliance on short-term wholesale funding.
- Output floor
- A Basel III finalisation rule requiring a bank's total RWA (under internal models) to be at least 72.5% of the RWA computed under the standardised approaches, limiting how far internal models can cut capital requirements.
Basel III Capital and Liquidity FAQ
What is the difference between the LCR and the NSFR?
The LCR is a short-term test: high-quality liquid assets over net cash outflows in a 30-day stress, ≥ 100%, so the bank survives a month-long liquidity shock. The NSFR is a structural, one-year test: available stable funding over required stable funding, ≥ 100%, so the bank is not over-reliant on short-term wholesale funding to hold longer-term assets. One is about surviving a stress window, the other about a sustainable funding profile.
Why does a bank need a leverage ratio if it already has capital ratios?
Because risk-weighted ratios depend on the risk weights, which internal models can understate. The leverage ratio (Tier 1 ÷ total exposure ≥ 3%) is a non-risk-weighted backstop that caps how large a balance sheet a bank can build on a given amount of Tier 1 capital, regardless of how low its modelled risk weights are — it would have constrained the extreme pre-crisis leverage of firms like Lehman.
What happens if a bank breaches its capital-conservation buffer?
It is not immediately closed, but it faces automatic distribution constraints: a minimum capital-conservation ratio restricts the share of earnings it can pay out as dividends, buybacks and bonuses until it rebuilds CET1 above the buffer-inclusive requirement (4.5% minimum + 2.5% buffer = 7.0% CET1, plus any countercyclical or G-SIB add-ons).
Can AI help me with Basel III calculations?
Yes, as a step-by-step study aid. Sia can walk you through the capital stack (CET1/Tier 1/Total ratios against the minima plus buffers), the LCR with its 75% inflow cap, the NSFR and the leverage ratio, and check your units and interpretation on practice numbers. It explains the method and checks your working; it does not do your graded UNSW assessment, and the academic-integrity policy applies.
Exam move
This chapter is where calculation marks are most reliably won, so drill the ratios until they are automatic and you never confuse their denominators. Memorise the stack and minima (CET1 ≥ 4.5%, Tier 1 ≥ 6%, Total ≥ 8%, all over RWA), the buffers met with CET1 (conservation 2.5%, countercyclical 0–2.5%, G-SIB surcharge) and the effective 7.0% CET1 requirement they imply. For liquidity, practise the LCR with the 75%-of-outflows inflow cap (so net outflows are at least 25% of gross), the NSFR, and the leverage ratio (Tier 1 ÷ total exposure ≥ 3% — not over RWA). Do at least one problem where a bank passes one test and fails another, so you can articulate that capital and liquidity are separate constraints. Always carry units and add a one-line pass/fail verdict with the binding constraint named. Ask Sia to generate fresh balance sheets in the same style and mark your working; confirm the calculator and permitted-materials policy on the FINS3650 course outline.
Working through Basel III Capital and Liquidity in FINS3650? Sia is AskSia’s AI Business and Economics tutor — ask any FINS3650 Basel III Capital and Liquidity question and get a clear, step-by-step explanation grounded in how FINS3650 is taught and assessed. Read this chapter free, then take your hardest questions to Sia.
