When regulators define mathematics, the apparent certainty that the science brings is thrown to the wind. Big banks are currently selling off cash reserves, issuing stock and swapping the labels over on balance sheet items, apparently to please the regulators. Are we any safer?

Why do some banks have to raise more money?

In June 2011, the Basel Committee on Banking Supervision set out its guidelines about how much money banks should hold to protect against bankruptcy. It issued a series of ratios which were intended to make the business less risky. That included a leverage ratio, which restricts how much money banks can borrow relative to how much equity they have issued to raise money.

This debt to equity ratio should be 97%/3% according to the Committee. National authorities have been transposing this into local regulation ever since. This ratio determines how exposed banks are to losses. Under these rules if a bank loses 3% of the money it has raised, perhaps because the net value of its assets fall 3% for example, it will not become bankrupt because it has raised that money from equity holders who are not owed money. If a fall in asset value goes beyond 3% it means they are facing bankruptcy because that is money they have borrowed. Some banks in the UK were found to be short of this ratio and have to raise more money from equity as a result.

Is that it?

No, some European banks are also seeking to sell off cash and government bonds, both highly liquid, low risk assets. By reducing the size of their overall balance sheets the total amount of equity they will have to issue is reduced. However the Basel Committee also issued a liquidity coverage ratio which “will require banks to have sufficient high-quality liquid assets to withstand a 30-day stressed funding scenario that is specified by supervisors,” by 2018. So those assets might have come in handy.

Is that it?

Again no. Banks are also being asked to increase the amount of tier one capital (the value of any issued stock and plus earnings retained as cash) that they have, set off against the value of their risk weighted assets (RWA), called the tier one capital ratio. The Bank of England has said the shortfall of equity capital to meet 2019’s ratio target of 4% is £121 billion among UK banks.

A study by the European Banking Association released on 5 August 2013 suggests that there is significant variation between banks’ risk weighting practices. These are frequently national differences that reflect models supported by national regulators. If some banks are still rating sovereign debt as 0% risk, even after the European sovereign debt crisis, it suggests that they need to have their perspective revised.

Standardisation is sometimes criticised in risk management, as it could lead everyone to seek out the same assets in times of crisis. Nevertheless, if some prove assets better to hold and some worse, fighting over them is hardly any worse than blindly not holding them. The net effect would be the same as some firms go bust.