Capital Adequacy Ratio

Banking

Quick Definition

Capital Adequacy Ratio (CAR) is the ratio of a bank’s capital to its risk-weighted assets, used to measure its financial strength and ability to absorb losses.

Detailed Explanation

CAR ensures that banks have enough capital to cover potential losses and protect depositors. It is a key indicator of a bank’s financial health and stability.

Banks in India must maintain CAR as per guidelines from the Reserve Bank of India and international Basel norms (Basel III).

CAR Formula

CAR = (Tier 1 Capital + Tier 2 Capital) ÷ Risk-Weighted Assets × 100

Components of CAR

  • Tier 1 Capital: Core capital (equity, retained earnings)
  • Tier 2 Capital: Supplementary capital (reserves, subordinated debt)
  • Risk-Weighted Assets (RWA): Assets adjusted for risk level

Minimum CAR Requirement

  • In India: Typically around 9% or higher (as per RBI norms)

Why CAR Matters

  • Ensures bank stability and solvency
  • Protects depositors’ money
  • Helps manage financial risks

Example

"If a bank has ₹100 crore capital and ₹1,000 crore risk-weighted assets, its CAR is 10%."

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