The primary role of capital for a bank is to assure the highest possible return on equity for its shareholders.

Question

BlackTom AI · Accepted Answer

The statement presented asks about the primary role of capital for a bank and provides two options to evaluate.
Option 1: TRUE. Interpreting this as the bank’s capital exists mainly to ensure the highest possible return on equity is a misconception. While profitability and ROE are important performance metrics, the core purpose of bank capital is to absorb losses, support risk-taking within a prudent framework, and satisfy regulatory capital requirements. Capital acts as a buffers against unexpected losses, helps maintain solvency during stress, and underpins liquidity and confidence in the banking system. Framing capital’s role as maximizing ROE misplaces priority on shareholder returns rather than on fundamental safety, resilience, and regulatory compliance.
Option 2: FALSE. Saying that the primary role is instead to assure the highest possible ROE aligns with a rationale that conflates risk-bearing capacity with performance measurement. It ignores how capital quality and quantity serve to cover credit, market, and operational risks, and how regulators mandate minimum capital to protect depositors and maintain systemic stability. While higher capital can influence ROE (through leverage effects), that is a consequence rather than the primary purpose of capital. In practice, a bank’s capital foundation is about loss-absorption and sound risk management, not guaranteeing the greatest possible return on equity.
In summary, the claim in Option 1 overstates the purpose of capital by centering on ROE, whereas Option 2 correctly reframes capital’s fundamental role as a buffer for risk and regulatory compliance rather than a tool to maximize returns without bound.

BU.232.715.51.SP25 HW5

The primary role of capital for a bank is to assure the highest possible return on equity for its shareholders.

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