The Capital Requirement Regulations (CRR) defines how to measure – or ‘weigh’ - a firm’s assets in relation to their risk and therefore how to calculate the capital a firm needs to hold.
Safe assets, such as cash, are disregarded, whereas other assets, such as loans to other firms are considered riskier and therefore have a higher ‘weight’.
The greater number of riskier assets a firm has, the greater level of regulatory capital it has to hold.
As well as the risk-weighing of balance sheet assets, firms must also hold capital against risks related to off-balance sheet exposures. Some examples of off-balance sheet exposures could be loans and credit card commitments, which are also risk-weighted.