The Basel Committee on Banking Supervision has always presented the leverage capital ratio as a ‘backstop’ for more sophisticated measures that rely on risk-weighting banks’ assets. If banks become too aggressive in their modelling of risk, the pure capital-to-assets ratio will put a floor under how much capital they must hold.
But the growing fear was that the leverage ratio itself would become the first constraint on bank balance sheets, overriding more risk-sensitive analyses. This could encourage banks to take larger risks to generate a higher return on capital with a smaller balance sheet. The leverage ratio is a blunt instrument for assessing risk, rather than just size.
