5.3 The Legal Capital Regime 143a bank can leverage its equity capital base. (a) In the US, the Federal Deposit In-
surance Corporation (FDIC) insists on maintaining a leverage ratio restriction (an
additional risk-independent capital requirement that is proportional to the size of
banks’ assets). The introduction of a leverage ratio is not incompatible with the
Basel I and Basel II frameworks. US regulators have proposed a leverage ratio
even for international use. (b) In 2008, Swiss regulators decided to introduce a
simple leverage ratio which does not allow for any risk-weighting of assets. This
was partly because of the extreme leverage of the largest Swiss banks. In 2008, the
two big Swiss banks had an average level of indebtedness of 97% (97 Swiss francs
of borrowed capital for every three francs of equity). (c) In 2009, the German
Ministry of Finance published a proposal for an act requiring the regular disclo-
sure of the leverage ratio.^40 (d) According to the Turner Review of global banking
regulation published by the FSA in 2009, a maximum gross leverage ratio should
be introduced as a backstop discipline against excessive growth in absolute bal-
ance sheet size.^41
The effect of both a minimum capital regime and a leverage ratio regime never-
theless depends not only the capital requirements or ratio (x%) but also on how
they are calculated (x% of what). Where the minimum capital requirements and
the leverage ratio are determined on the basis of an entity’s balance sheet, the en-
tity can have an incentive to use off-balance sheet constructions such as conduits
and SPVs.
Legal capital regime v equity-insolvency test in the US. In the US, shareholders
are typically protected by disclosure obligations. Creditors are often protected by
equity-insolvency tests based on the Model Business Corporation Act (MBCA)
and rules on fraudulent transfers based on the Uniform Fraudulent Transfer Act.
The exact contents of creditor protection depend on the governing state law.^42 For
more than a century, minimal statutory regulation has given borrowers and lenders
an incentive to use covenants.^43
The equity-insolvency tests mean that after a distribution, the corporation must
be able to pay its debts as they become due in the usual course of business
(MCBA § 6.40(c)).^44 In applying the § MCBA 6.40(c) equity-insolvency tests, the
board may use the fair values rather than the accounting values of assets and li-
abilities.^45
(^40) Referentenentwurf eines Gesetzes zur Stärkung der Finanzmarkt- und der Versiche-
rungsaufsicht, March 2009.
(^41) FSA, The Turner Review. A regulatory response to the global banking crisis (March
2009) pp 7, 54, and 67.
(^42) For an introduction to creditor protection under Delaware law, See, for example,
Fleischer H, Gläubigerschutz im Recht der Delaware corporation, RIW 2005 pp 92–97.
(^43) See Bratton WW, Bond Covenants and Creditor Protection: Economics and Law, The-
ory and Practice, Substance and Process, EBOLR 7 (2006) pp 39–87.
(^44) MCBA § 6.40(c): “No distribution may be made if, after giving its effect: (1) the corpo-
ration would not be able to pay its debts as they become due in the usual course of busi-
ness; or (2) the corporation’s total assets would be less than the sum of its liabilities ...”
Distributions have been defined in MBCA § 1.40(6).
(^45) MBCA § 6.40(d).