Loss Absorption

Loss absorption is a financial concept where certain parts of a financial institution, like a bank, are designed to absorb losses during tough times. This means that if the bank faces significant losses, these losses are first covered by the bank’s own internal resources—such as capital or specific loss-absorbing instruments—before affecting depositors or taxpayers. This process helps maintain the stability of the financial system by ensuring the bank can fail gracefully without causing widespread economic problems. Essentially, loss absorption acts as a financial shock absorber, protecting the broader economy from the impact of individual bank failures.