What is economic capital?
Economic capital concerns the amount of money that the company must remain with a solvent and avoid bankruptcy. The concept is the most important in the financial industry and industry such as banks. However, it exists in any business structure or entity in which the risk or obligation is taken that the company can be invited to pay.
In general, the definition of economic capital includes mainly liquid assets, which means that it includes only money or money equivalents such as bonds that could be easily transferred to cash if necessary. Defeating assets may not be considered as part of the economic capital of the company, because the company may not be able to sell these assets if it is invited to come up with money to cover its debts or risks.
Economic capital is closely related to the capital reserve that the company has. The capital reserve basically refers to the amount of the money that the company has in the bank only in case. With a differenceL, however, this generals are the required amount of economic capital is determined by individual companies, while laws may require a bank or financial institution to have a sufficient capital reserve to cover the deposits of a certain percentage of accounts held by the bank.
The company may determine the amount of capital it needs, by considering the amount of risk it assumed, and as expected losses due to the risk. When the company adopted a risk, such as investment in a potentially risky asset, it should have enough money to pay the obligations and costs that occurred. The company's credit rating also faces how much capital it should have at hand, from higher ratings, the less capital may need. It should also have enough money not to get rid of if this risk does not emerge.
If the company has sufficient capital to cover these risks, then it is probably to get itgood rating or risk assessment. If it does not have enough money and has low capital, it may have a high risk rating or low credit score and will be considered a poor investment. Companies, in particular financial institutions, generally publish or provide data on the amount of capital, which must prove their financial power on the market.