APRAS PRUDENTIAL STANDARDS FOR ADIS Capital adequacy There are a number of prudential standards that apply to authorised

deposit-taking institutions (ADIs) in Australia. The most significant standards relate to the assessment of capital adequacy; their aim is to ensure ADIs maintain adequate capital to act as a buffer against the risks associated with their activities. Under the Basel II Framework, ADIs must hold regulatory capital for credit and operational risks. To the extent that an ADI has market risk exposures, it would also be required to hold regulatory capital against these exposures. In essence, capital is allocated based on the riskiness of an asset or activity. For each ADI, APRA sets a Prudential Capital Ratio (PCR), which is generally higher than the minimum requirement set out in prudential standards of eight per cent of risk-weighted assets. ADIs must hold half of the required amount in the form of the highest quality components. The following example illustrates the application of the capital adequacy standards for an institution with total assets of $600 million.
Asset/activity Amount Riskweight/capital factor (%) Riskweighted asset amount ($) Required capital ($) 1

($m) Credit risk capital charge Cash Fixed interest AAA-rated government debt securities Fixed interest AA-rated corporate debt securities AA-rated mortgage backed securities BBB- rated mortgage backed securities Unrated commercial loans Property investments Investments in listed unit trusts Investments in unlisted unit trusts Total credit risk capital charge Operational risk capital charge Cash Securities and commercial lending Other activity Total operational risk capital charge Total required capital 30 270 100 30 20 20 15 15 200 200 50 50

0 0 20 20 100 100 100 300 400

0 0 4 3 15 200 200 150 200

0 0 0.32 0.24 1.2 16 16 12 16 61.76

0.420 0.525 18

1.58 2 17.722 225

0.13 1.42 18 19.55 81.31

Other prudential standards

1 2

Assuming an eight per cent minimum. For the operational risk capital charge, the ADI calculates an amount of capital which is converted to a risk-weighted asset equivalent by applying a factor of 12.5.

2 In addition to capital adequacy standards, ADIs must comply with prudential standards related to the following: governance; fit and proper; liquidity; credit quality; large exposures; associations with related entities; outsourcing; business continuity management; audit and related requirements for prudential reporting; and public disclosure of prudential information.

Under the prudential standards dealing with large exposures and associations with related entities, limits may apply to aggregations of exposures, with specific rules for exposures to related entities.