Proceedings of the Standing Senate Committee on
Banking, Trade and
Commerce
Issue 34 - Evidence - Afternoon sitting
VANCOUVER, Wednesday, October 28, 1998
The Standing Senate Committee on Banking, Trade and Commerce committee met this day at 2:00 p.m. to discuss the present state of the financial system in Canada (Task force on the Future of the Canadian Financial Services Sector).
Senator Michael Kirby (Chairman) in the Chair.
[English]
The Chairman: Our first witnesses this afternoon are from the Credit Union Central of B.C. We have Wayne Nygren, President and CEO of the Credit Union Central, and Richard Thomas, who is Vice-President, Government Relations, and Corporate Secretary.
As many of you know, we heard from the credit union movement originally at our opening hearings in Ottawa. The CEO of the Credit Union Central appeared along with the CEO of VanCity Credit Union, which is the largest credit union in Canada. When we were in Saskatoon, we had a presentation from the Credit Union Centrals of both Saskatchewan and Alberta.
There are a number of recommendations in the report of the MacKay Task Force on the Future of the Financial Services Sector in Canada. A number of them pertain to giving additional powers and additional organizational opportunities to credit unions in order to enable them to, in effect, become banks. They would be interested in becoming a particular kind of bank, but they nevertheless would acquire many of the powers of a bank. I remind you of the evidence that we have had before, and of the recommendations that are in the MacKay report.
Mr. Nygren, Mr. Thomas, thank you very much for taking the time to be with us today. Please proceed with your opening statements, and then, as usual, my colleagues would be delighted to ask you a number of questions.
Mr. Wayne Nygren, President and Chief Executive Officer, Credit Union Central of British Columbia: Honourable senators, I am on the board of Credit Union Central of Canada, and I chair the National Legislative Committee for the Credit Union Central of Canada. I am also on the board of the Canadian Payments Association. With me is Richard Thomas, who is the Vice-President of Government Relations and the Corporate Secretary, and who is also on the National Legislative Committee for the Credit Union Central of Canada.
I would like to sketch the credit union system in British Columbia for the committee. Since its inception 60 years ago, the credit union system has grown to $21 billion in assets. We serve 1.4 million members in British Columbia. Approximately a third of the population belongs to credit unions. We have 335 locations, and have branch offices in 125 different communities. Collectively, credit unions operate 418 ATMs In British Columbia, there are 28 communities where the only financial organization is a credit union. The number of credit unions peaked in 1961 at 328. They have declined almost annually since then, and we now have 86 credit unions.
Since 1961, our membership has increased six-fold and our assets have increased 80-fold. Today credit unions and their subsidiaries employ in excess of 7,000 employees in British Columbia, and are probably one of the major employers in the province.
While not all credit unions in British Columbia are of a size to address all the financial services needs of their members, more and more are in a position to do so. Credit unions offer a full array of not only deposit-taking and lending services, but card services, trust services, mutual funds, brokerage, and, through their wholly-owned subsidiaries, both general and life insurance. Today credit unions operate 36 insurance subsidiaries.
Credit unions use the Credit Union Central as their central banker and trade association. We also have an organization called Stabilization Central of British Columbia, which looks after credit unions that are financially struggling, or that have some type of corporate governance concern. This function was previously performed by a government organization. It is now performed by Stabilization Central.
On the national front, the Credit Union Central of British Columbia has about 30 per cent of the assets of the system. In terms of transactions that go through the credit union system, about 40 per cent of the electronic transactions go through the credit union system. The board of Canadian Central has 11 members, and B.C. Central has three of those members.
Let me now talk about the MacKay task force, because I think that is what we want to get into. We look at the MacKay task force report, and we ask what this means for us. Harold MacKay and his task force identified four main themes. One was the whole area of enhancing competition and competitiveness; the second was empowering consumers; the third was meeting the expectations of Canadians; and the fourth was improving the regulatory framework under which financial organizations operate. We certainly commend the MacKay task force for the thoroughness of its report.
While government cannot legislate a vibrant second tier of financial institutions, credit unions in Canada have developed and continue to develop as the primary competitor to Canada's chartered banks. If we look at the MacKay report and the implications of the entry of foreign banks, the only legitimate competitive environment right now would be the credit union system, especially with its distribution network in Canada.
I would suggest that there are probably three key issues that we as a system or credit union industry have to deal with. The first one is really the development and delivery of products and services. We have to find better and quicker ways to develop and deliver products. The second issue is the whole area of cost. The third area is the whole area of image. What type of image do we project to Canadians? Each one of these issues is being addressed in relation to structural revisions that are under system consideration.
I believe that the scenarios we are considering were well documented in our first appearance before your committee. We are presently looking at three scenarios; one wholesale scenario, and two retail scenarios.
In the wholesale scenario, we are looking at the possibility of the centrals coming closer together functionally. In other words, in coming together are there things we can do from a functional perspective that would make it more convenient and efficient for credit unions that either want to stay independent credit unions, or those that want to move to a community charter or a federal charter?
Second, we do not just look at the functional issues. We also consider whether, over time, we can merge the balance sheets of all the provincial centrals into one functional organization, whether we do it individually, one at a time, or as a total group across Canada.
We are looking at the wholesale model. Then we are looking at the retail level. At the retail level, we are looking at two scenarios. One option is to enhance our present system. In other words, can credit unions stay credit unions, and can they be more effective and efficient in delivering services? We are looking at how the wholesale organization can be of service to them.
The second retail scenario is the possible creation of a national institution referred to as a community bank. Those are the two retail scenarios. One wholesale model that we are considering deals with the centrals, either putting them together functionally or on the balance sheets. In that scenario, we provide wholesale services to individual credit unions, or to the new community bank that may be established.
We then have two retail alternatives. One is to stay independent and do it better, and the other is to set up a community bank of Canada and go in that direction. We are trying to adjust the costs and the delivery of products and services, and we are trying to address the issue of image.
Most credit unions clearly place a high value on their autonomy, their capacity to serve the local community, and their identified market niche. This is very important. These credit unions are not banks and have no desire to be banks, but they are prepared to bear some additional administrative expense as the price for that autonomy.
To address the issue of costs and image, we are exploring ways in which these credit unions can be a more distinct and integrated presence for members. These include a review of our branding, and promotion of more homogeneous products and services. This will require greater co-operation among the 800 credit unions in this country.
The second retail scenario is the creation of a national retail financial co-operative or community bank. This option is favoured by a dozen credit unions, who see it as the best way to bring products and services to market and to expedite decision making. They recognize that the creation of a single national institution will result in the loss of some of their flexibility to develop products and services, as well as of their uniqueness and their autonomy. This would appear to be the price that they are prepared to pay in exchange for a more homogeneous identity and a more efficient operating structure.
Those are the two issues that we are looking at. We look forward to being in a position to present a national system consensus on this to Ottawa by year's end.
Mr. Chairman, I note your support for the task force recommendation that changes be made to the Cooperative Credit Associations Act. These changes would permit central credit unions to better serve their members, both through revisions to the definition of the word "control" for the purposes of section 390, and through revision of the Minority Investment Regulations, pursuant to that section of the CCA Act.
More generally speaking, credit unions in British Columbia are strong supporters of greater competition in the financial services industry. A good case can be made that no financial institutions in Canada are more entrepreneurial than Canada's credit unions. To that end, we support the task force position that new ways be found to encourage both domestic and foreign entrants into Canada's financial services marketplace.
Greater competition best serves Canadians. We believe that this should be the cornerstone for any decision the federal government makes concerning either revising financial institution legislation or the merger of financial institutions. We also believe that governments and regulators ought to strictly enforce legislation that prohibits anti-competitive practices.
Financial institutions in British Columbia, other than chartered banks, have been statutorily prohibited from tied selling since 1990. We commend the federal government for having recently proclaimed similar provisions in the Bank Act. That said, we note the clear difference between cross-selling and tied selling. The former is, and must remain, an acceptable business practice, one which can and should benefit consumers. The other should be prohibited.
We support the recommendations of the task force that both federal and provincial governments seek to reduce over-regulation and duplicate regulation, while ensuring that a prudent regulatory framework remains current with the changing marketplace.
On the other hand, credit unions in British Columbia do not support harmonization. Harmonization can lead to regulation to the lowest common denominator. Credit unions in British Columbia have enjoyed perhaps the broadest, most enabling and most flexible financial institution legislation in Canada for the past eight years.
If the government of the day had chosen to simply harmonize the legislation with that of other governments, credit unions would not be permitted to retail insurance through subsidiaries, engage in automobile leasing, or provide a number of other financial services. We believe that this has been our strength over the past number of years. We believe that legislation must enable competition and innovation, not restrict it.
The Chairman: In the last paragraph of your opening remarks, you raise the issue of harmonization. By "harmonization," I assume you mean comparable powers across all parts of the financial services sector. In other words, if you cannot retail insurance in one place, then you cannot retail it anywhere. Am I correct?
Mr. Nygren: That is correct.
The Chairman: I would assume that you have no difficulty with harmonization if it goes the other way; if you harmonize to whatever institution has the broadest possible powers. That is to say, if you take jurisdictions where certain things are currently not allowed to happen, and allow them to happen.
Mr. Nygren: You have to look at the bigger picture, and you are right in many respects. We look at it, and we consider what we have been able to achieve in British Columbia. If you look at all the strengths of the regulatory environments where there has been phenomenal enabling legislation -- such as Quebec and Saskatchewan -- you will see a very strong credit union system. That is why it is important for us not to be regulated to the lowest common denominator.
The Chairman: Harmonization is not your problem -- the lowest common denominator is your problem?
Mr. Nygren: In many respects that is probably true. We have found that that is not what normally happens with harmonization, however. It goes to the lowest common denominator.
The Chairman: This committee would absolutely agree with you that we do not want to outlaw cross-selling, or what we have usually called "bundling various services at a discounted price." On the other hand, coercive tied selling is obviously something that has to be banned. Along with regulators and public-policy makers, this committee has been struggling with the problem of how to prevent one without preventing the other.
A witness who appeared before us this morning used an intriguing and descriptive phrase when talking about implicit tied selling. That witness had been a commissioner on the British Columbia Task Force on Bank Mergers. Implicit tied selling was described as not coercive, in that it does not say "you do not get this loan if you do not buy this insurance policy," but it was gently suggested to you that it might be a good idea if you bought this insurance policy. It is hard to argue that it is coercive, but there is clearly an implicit element.
Thousands of transactions take place every day across the country. When do you draw that fine line? That is, how do you choose between giving people the advantages of bundling, or what you call cross selling, and not putting them in a coercive position on tied selling? Apart from saying "thou shalt not," how can you really do that in a public marketplace?
Mr. Richard Thomas, Vice-President, Government Relations and Corporate Secretary, Credit Union Central of British Columbia: That is a good point, senator, and a very difficult issue. In British Columbia we have been dealing with this issue for over 20 years. How do you respond to the implicit coercion argument? It is a bit like, the "have you quit beating your spouse?" argument. It is like punching smoke.
I would agree that one person may read a suggestion or an offer one way, and someone else may read it completely differently. All I can tell you is that, in the past 20 years, the regulator in this province has not had a complaint about credit unions engaging in insurance tied selling in that respect. There have been no complaints whatsoever about the way credit unions have engaged in retailing insurance through their subsidiaries that did not originate with someone who was tied into the insurance industry. It is an impossible argument to win.
The Chairman: You appreciate our frustration when we have people such as yourself saying there have been no examples. The Canadian Banking Ombudsman appeared before us this morning, and stated there had been two or three cases in the last year. Yet we have all this anecdotal evidence which would suggest that the opposite is happening. It is frustrating, because it is a problem, and we do not know how to solve it. That is why I asked the question.
Senator Callbeck: Following on with the issue of tied selling, you mentioned in your comments that you commend the federal government for having proclaimed the provisions in the Bank Act, which was done about a month ago. At least one witness has said that these provisions are not strong enough. What is your feeling on that?
Mr. Thomas: The legislation was only proclaimed a month ago, so it is hard to say. Again, the chairman raised the question of anecdotal evidence, and there clearly has been some in the popular press with regard to banks and their securities companies. It is a question of seeing how it works. I personally think that the wording is sufficient in the Bank Act. As with anything else, however, it is quite often not the legislation -- it is the way in which it is interpreted and administered. The answer is to just give it some time.
Senator Callbeck: In the MacKay task force, there are certainly several recommendations that will greatly help credit unions. Are there any areas that were not covered, or any recommendations that you would have liked to have seen in the MacKay task force report?
Mr. Nygren: We worked very closely with them on that task force.
Senator Callbeck: My last question is on the credit union movement in Atlantic Canada. It is certainly not as strong as the movement in British Columbia. If the task force recommendations are implemented, do you see the movement in Atlantic Canada becoming as strong as it is in Western Canada?
Mr. Nygren: I cannot really talk about that, because I really do not know the culture and the values in Atlantic Canada. I do know that, if the legislative environment were to encourage the development of credit unions, and if the government were to positively back them by providing them with business, there is no reason why they would not prosper and flourish in Atlantic Canada.
Mr. Thomas: Although these numbers are relative, I believe I am correct in saying that the growth of the credit union system in Prince Edward Island last year exceeded the national growth in all the other provinces. It is working off a much smaller base, but the credit union system in the Maritimes, and in PEI in particular, had a particularly good year last year.
Senator Kroft: Your brief contains some interesting figures that show the reduction in the number of credit unions in British Columbia from 1961 to the present. I presume that took place through a number of mergers or consolidations of existing credit unions?
Mr. Nygren: The majority would have been through mergers, consolidations, and buy-sell agreements. Basically, the vast majority would have been done through the wills of the various boards of directors.
Senator Kroft: In today's climate, I wonder what we might learn from the industry's experiences. What were the consequences for cost, employment, and customer service in that type of active merger and consolidation environment? Is there anything that may be instructive to us in some of the questions that we have to face now?
Mr. Nygren: Speaking in general terms, because they are all somewhat different situations, operation costs generally have come down, while service levels have normally increased. In terms of the employment, I would assume that probably you would need fewer people, but I do not know the situation. In most of the situations of which I am aware, when mergers took place, they guaranteed their jobs, but not their employment.
Mr. Thomas: I am not sure you can draw a good parallel between credit union mergers over the last 30 years and the proposed bank mergers.
Senator Kroft: I am not taking the analogy too far.
Mr. Thomas: In most cases, those credit unions probably were not competing with each other. In many cases, the only institution in town merged with a larger one. This would not be a situation where two or three institutions within the same community came together and cut back on employment in that community.
Senator Kroft: The credit unions in British Columbia enjoy the privilege of selling life insurance and P and C. Can you give us some idea as to market shares in each of those areas?
Mr. Thomas: I could not. I do not know the market well enough to tell you that. It clearly varies from marketplace to marketplace. Pacific Savings in Victoria has a very strong, viable, and healthy insurance agency subsidiary and I believe it is one of the largest retailers of ICBC insurance in the City of Victoria. That would differ quite significantly across the province.
Mr. Nygren: I would say that we are probably one of the major retailers of insurance in the province, one of the major players.
Senator Kroft: You would be covering both life insurance and P and C product when you say that?
Mr. Nygren: I am not sure about the life insurance side.
Mr. Thomas: It would be mostly P and C.
The Chairman: Could you network that? In other words, can you use information gained from customers who are coming in for what I would call basic banking services, including a loan, to provide information as to who to target for insurance sales?
Mr. Thomas: Could we? Yes. Are we allowed to? No. There is a statutory prohibition on the use of that information. Even with the customer's written consent, we cannot use the information from one transaction in another transaction, if one of those two transactions is general insurance.
The Chairman: You can sell insurance in the branch, though?
Mr. Thomas: Credit unions that had and owned insurance agencies prior to 1988 have grandfathered locations.
The Chairman: That is a grandfathering problem. Perhaps we should say "grandparenting" these days, to be politically correct. Since 1988, someone who is not in the business cannot do it. Is that right?
Mr. Thomas: That is wrong. Anybody who was in the game before 1988 can sell insurance from a separate and distinct area of the branch.
Mr. Nygren: Separate premises.
Mr. Thomas: Since 1988, we have been able to get into the game, but the insurance agency premises have to be separate and distinct from the "banking" operation of the credit union.
The Chairman: That condition is effectively the same condition that would apply to a bank under federal legislation?
Mr. Thomas: Yes. The question you have to ask yourself is: If this is such a horrendous crime, why do we have grandparenting? It does not appear to be a problem.
The Chairman: In other words, the institutions that were grandfathered have not managed to wipe out the P and C insurance brokers in their area, as we have been told from time to time?
Mr. Thomas: They have not.
The Chairman: I am sorry, Senator Kroft. I wanted to make sure I understood where the boundaries were.
Senator Kroft: I found that very helpful, Mr. Chairman. You have very clearly set out two scenarios as to the ways in which the credit unions might decide to go, and this decision-making struggle will be in the hearts and minds of each board as we go through these next few months.
One option, as you said, is to maintain their independent character. The other is to be prepared to move in the direction of a larger national institution.
Mr. Nygren: That is right, and there is a major discussion in our system of how we go. There are a number of credit unions that say they want to remain as credit unions; they feel that, if they enhance what they are doing now, work more closely together, cooperate with each other, and develop more products cooperatively, they can survive and prosper. Autonomy is very important to them, as is their community.
The other school of thinking -- and there is no right or wrong answer -- says that they would like to become a national financial organization. They believe that they can put their volumes and numbers together, still work as a cooperative at the community level, and yet become more efficient. There are two schools of thought.
Senator Kroft: Based on the presentation that we had this morning, it seems that each school of thought would be big enough to allow it to do what it wished to do. That is, there should be enough critical mass to allow the group that wants to go into the national format to do so, without needing everyone else. In other words, if the others like the local option, they could probably choose it.
Mr. Nygren: We are looking at the various business case analyses right now. It would appear that a business case can be made for each option, and that each is workable, subject to working out the fine details of the operation and the links between the two of them, and then the links between the wholesale provider. Obviously, that has not been worked out. The legislative environment under which all of them will operate has not been clarified. We feel there is an opportunity for both of them to be successful, otherwise we would not pursue it.
Senator Kroft: Does the task force report contain enough positive proposals and incentives to encourage the national scenario, or are there specific things that you still feel you would need?
Mr. Nygren: At this point, the legislation still has to be reviewed. In principle, the system certainly supports the development of a national cooperative bank, but in terms of the legislation, what it does, and how it works together -- that still has to be worked out.
[Translation]
Senator Hervieux-Payette: I come from the province of Quebec where Mouvement Desjardins is probably the institution with the largest share of the market.
Last year, Mouvement Desjardins laid off some 2,000 employees. One of the reasons given was the development of new technologies, including I suppose automated teller machines and various services that can be offered through telemarketing.
This morning, Minister Waddell told us about his serious concerns regarding the mergers of the large banks which could lead to branch closings and massive layoffs. Are your members concerned with potential closings and has your organization in its efforts to modernize its facilities laid people off in the year preceding this meeting?
[English]
Mr. Nygren: In terms of the experience in British Columbia, we have been able to modernize ourselves. With the mergers, we have been able to get into additional businesses. For example, we are now in the brokerage and mutual fund business, as well as in insurance. We have added hundreds of people, and have not had any layoffs. We have been able to restructure ourselves to cut our costs.
Employment or jobs may be lost in a particular sector, but we have been able to expand the number of people working in the credit union system in the past number of years. This is because of the additional businesses that we have been able to get into because of our restructuring. Technology has eliminated jobs in certain areas, but it has allowed us to get into additional businesses, and that has allowed us to hire far more jobs than we have had to eliminate.
[Translation]
Senator Hervieux-Payette: Are your clients worrying at the local level? Have some of your members said that they would become prisoners as you might be the only financial institution in some regions? If banks decided to close some branches following the mergers, would your members feel trapped if there was no one else they could turn to for financing?
Have you heard concerns from your clients across the province where you operate?
[English]
Mr. Nygren: We have not had that in the credit union system, mainly because we are in 28 locations where the only financial organization is a credit union. In many of those, we moved in after the banks moved out.
To be very frank, a number of credit unions expressed concern about possible layoffs. We also have that concern, because credit unions are an integral part of their communities. They are only as strong as their communities -- they live and die by their communities -- so it is not in their best interests to reduce their employment and restructure themselves so as to provide poor services. Our challenge has been, and remains, to maintain our employment levels. If our employees cannot have the jobs they previously did, at least we have new functions that we are able to develop.
[Translation]
Senator Hervieux-Payette: One of the suggestions, and I do not know if you have already initiated this process, would be a partnership with the Canada Post Corporation, that is to say that you could share office spaces with local post offices to offer your services. If this was possible all across the province, would you be willing to prepare a bid to operate inside post offices not to have to incur major costs for the opening of a new branch?
[English]
Mr. Nygren: We have certainly looked at all options. They have discussed it with us -- whether it is Canada Post or a business development bank. There are certainly options, and we are open to all alliances that would allow us to deliver our services more efficiently and reduce the cost to our membership.
Using one or two locations for a variety of different purposes would make sense. We are certainly open to that, and we are working very closely with the various parties in a number of those areas.
Senator Kelleher: If the credit unions were to be allowed into the banking business in a formal way, it would require new legislation. Knowing the government -- any government -- this could take a little while. I do not want to be political here, but I do have a concern about timing.
If the federal government were to permit the mergers, do you feel that the merged banks should not be allowed to go into operation until after your legislation is in place? What is your preference in this scenario?
Mr. Nygren: Senator, are you talking about legislation to create a national community bank?
Senator Kelleher: Yes.
Mr. Nygren: We are presently analyzing the legislation, along with the business cases that have been developed, to see whether the legislation works. We are certainly looking at where the issues are, and considering where there may be some constraints. After we have analyzed that -- and hopefully we will have input from our credit union delegates -- we will be in a better position to know what the legislation involves, what the impediments are, and how we deal with that.
Senator Kelleher: Perhaps my question is not clear enough. My concern is that such legislation does not pass through Parliament overnight, as you well know. It could take a year or two to pass legislation allowing credit unions into the banking business.
As a separate issue, the government also has the proposed bank mergers. If the mergers were approved, should those four banks be allowed to get on with their merger plans prior to the passage of legislation permitting the credit unions to go into the banking business?
Mr. Nygren: It would be difficult for us to accept that at this point.
Senator Kelleher: What would you prefer?
Mr. Nygren: It is a pretty broad question, because it would depend on the terms and conditions of the mergers. It would be difficult for us to have the banks merge and become a major powerhouse, while we were left in limbo. I think that would be difficult for us to accept, and it probably would be unsatisfactory.
Senator Kelleher: That is what I wanted to hear.
I notice that you are a director of the Canadian Payments Association. There is much discussion on this topic in the MacKay report, and we have also been hearing a lot about it. As you know, different organizations want access to the CPA. The committee would very much like to hear what you think of the MacKay recommendations on this, as well as your own thoughts on broadening access to the CPA.
Mr. Nygren: I agree with the MacKay commission. The board of the Canadian Payments Association has never had a problem with additional access. The question is under what terms and conditions that access will be allowed. It is not under equal terms and conditions; it is under equitable terms and conditions. The responsibility that we have as a board is prudential.
I am speaking as an individual board member now, because you asked for my own personal opinion. My concern is that organizations entering the payments system should be somewhat regulated. There has to be some liquidity backup to ensure that you can honour your payments at the end of the day.
The board is currently dealing with two issues. Has the committee heard from Bob Hammond on this issue?
The Chairman: Yes. The president and the chairman of the board of the CPA appeared before us.
Mr. Nygren: The two areas we are looking at are access and corporate governance -- how this is to be governed. Presently we have a board of 11, and that was set up in 1979. We have directors from five major banks and five independents, including the credit unions, Alberta Treasury branches, and trust companies. The banks are now buying up the trust companies, so there is really only the credit union system left. There are five directors from the banks, and five from the non-banks, and the Bank of Canada is the Chair. In other words, the Bank of Canada is the controlling body in this.
With the way the financial services industry has changed, along with the dissolution of the trust companies and the various ways that the business has evolved, we are looking at the whole area of corporate governance. For us, a critical area is whether or not we get independent directors, how many we get, and where the consumers' associations, the merchants' associations, or the brokerage and mutual fund industries fit into this.
They all want access to the Canadian Payments Association. I do not have a problem with that, as long as we can set up some rules and regulations, and some prudence so that they are able to honour their commitments. There has to be some regulation involved, or some regulatory authority that oversees them, at least on the clearing side of things.
Senator Kelleher: I believe there are some people who are looking for access to the system, but who are, at this time, outside of any regulatory regime. Is that correct?
Mr. Nygren: I am not sure what type of regulatory regime we would like to see. We are talking of finance now. All we are saying is some safety measures have to be put in place to balance those who basically take responsibility for the payments side of it. Yes, I agree with the MacKay task force and I agree with opening up the system, however.
The Chairman: I wonder if I could take you back to insurance. In those communities in which P and C companies were grandfathered -- that is, they were selling P and C in the branches prior to 1988 -- are there half a dozen or a dozen?
Mr. Thomas: I would suggest that of the 36 that now own agencies, it is probably closer to 24 or 26.
The Chairman: Of the half dozen largest, what share of the market do they have in their local communities?
I ask that question because we are typically told that, if that were allowed to happen, the deposit-taking institutions would immediately dominate the market. We have evidence from the caisses populaires in Quebec that they only have 11 per cent of the market after 10 years of trying. I would like to know whether the evidence here is the same, or whether the dire predictions we often hear from P and C brokers are correct. I would like to look at your data.
Mr. Thomas: If it is available, we will provide it. VanCity, our largest credit union, covers an area from here to Chilliwack, and I am not quite sure how we would necessarily measure it.
Mr. Nygren: We can measure it by institution.
The Chairman: Do you sell life insurance?
Mr. Thomas: Some credit unions do sell it through their insurance agencies, yes.
The Chairman: They act as brokers for some particular life insurance company?
Mr. Nygren: Yes. They do not underwrite it themselves. They are brokers for it.
The Chairman: And the Co-operators Insurance Company, with which the credit union generally has an affiliation, just sells property and casualty. Is that right?
Mr. Nygren: No, they sell life insurance.
The Chairman: Their products are not sold through your credit unions?
Mr. Nygren: Yes, they are.
The Chairman: When you say only some credit unions sell life insurance, is that because they have opted not to, or because they are legislatively barred from doing so?
Mr. Thomas: It is by choice.
The Chairman: So they could sell life insurance?
Mr. Nygren: Yes.
The Chairman: I am sorry to be so detailed here, but it matters to us in the broader picture. Can those institutions that sell life insurance do so in the branches, or is it like property and casualty, which has to be sold from separate premises?
Mr. Thomas: All the insurance is sold through the insurance agency subsidiary. If it is grandparented in, it is sold on the premises, otherwise it is sold within the insurance agency subsidiary. The credit union itself has no legal ability to sell P or C or life.
The Chairman: The credit union cannot pass information about this aspect. That is, they cannot pass along information to customers who go in for either life insurance or P and C. Is that right?
Mr. Thomas: With a customer's written consent, information can be passed between the credit union and the agency in respect of life insurance.
The Chairman: But not P and C?
Mr. Thomas: Not P and C, no.
The Chairman: Have you ever had the argument made that a customer felt implicitly pressured, as opposed to openly coerced, into granting that approval?
Mr. Thomas: As I said earlier, as far as I am aware, the only complaints to the regulatory authority in this province in the last 20 years have originated with somebody who was somehow tied to the insurance brokerage industry. Five years ago I could have counted the complaints on one hand. I do not know what the current number is.
The Chairman: Can you lease cars?
Mr. Thomas: Yes.
The Chairman: Are credit unions generally in the leasing business?
Mr. Thomas: Nor generally, no. A number are involved in leasing, but it is not something that credit unions have generally picked up.
The Chairman: To the best of your knowledge, has this had any disruptive impact on the car leasing market in those communities where credit unions do lease cars?
Mr. Thomas: Not to my knowledge.
Mr. Nygren: Not that we are aware of.
The Chairman: No significant complaints from automobile dealers in those areas?
Mr. Thomas: I am not aware of any.
The Chairman: What percentage of the deposit-taking business in British Columbia does the credit union movement have?
Mr. Nygren: It is hard to answer that specifically, but I can give you some examples. Let us start with the asset side of it -- residential mortgages. About one of every four mortgages is written on a credit union.
The Chairman: In other words, 25 per cent.
Mr. Nygren: About 31 per cent of the RRSP business is done through the credit union system. General deposits and other demand deposits are about 22 per cent. There are different percentages for different products.
The Chairman: I want to see if I can draw a conclusion from all your answers. If you do not agree with me, please say so. That is important. You are clearly a major player.
Mr. Nygren: We are the largest financial network in the province.
The Chairman: You are the single biggest player, because nobody is up around 25 per cent. So the single biggest player is able to sell life insurance, lease cars, and sell P and C. It has not resulted in the collapse of the automobile leasing market, the property and casualty broker market, or the life insurance broker market. Nor has it resulted in a significant number of complaints that you should not have those powers. Is that a fair summary?
Mr. Nygren: That is correct.
The Chairman: You can understand why I am asking these questions. This is 100 per cent at odds with every piece of testimony we get from the automobile industry and the brokerage industry. What you are telling me is we have a living proof market that has been around for a decade, and so I presume that that evidence ought to be worth something.
Mr. Thomas: It is a question of scale. Clearly, with the system in British Columbia taken altogether as $21 billion, the four or five biggest banks are all over $200 billion. If they were to be involved in that market, my guess is they would probably make a bigger splash in the pond than we have done. Your summary is correct.
The Chairman: Our next witnesses are from the Fraser Institute.
Mr. Jason Clemens, Policy Analyst: Honourable senators, our presentation will be two-fold. It will be a summary of our study, which was particularly focused on the bank merger proposal, and will also include comments on the MacKay task force.
Our study focused on the need to look at the bank mergers in the context of "contestability." In terms of a framework for looking at the effects of mergers on competition, our emphasis would be on whether or not the market is contestable. We have provided quite a bit of data in terms of research that has looked at the Canadian financial system, and we have concluded that it is relatively contestable. We would be in line with the MacKay report recommendations.
The Chairman: Will you define precisely what you mean by "contestability."
Mr. Clemens: Contestability would be defined by barriers to entry. If there were no barriers to prevent a firm from entering a market, it would be defined as a contestable market. Research by Dr. Baumol, as well as by many others, has deemed that, when we talk about competition, what we want to talk about is contestability. We mean contestability, as opposed to this notion that we need 1,000 firms or 2,000 firms with a homogenous product.
The conclusions of these researchers overwhelmingly see competition as a result of a lack of barriers to entry. A certain segment of a market or a complete market has a high level of profitability, and then new firms can enter that market and test it. That was the general framework in which we set our study. A particular focus that we had was on the role of technology. The study is available to you.
In terms of the Big Five banks, we have to understand that the number of domestic branches is already in decline. When you control for the number of international branches, as well as the number of trust branches that have been integrated into the banking system for the big five banks, the nominal number of branches is in decline.
The Chairman: Canadian branches?
Mr. Clemens: Yes, domestic branches. The numbers that we presented have declined, over the last 10 years, from 6,192 to 5,664. At the same time, the number of instant teller machines for the big five banks has increased from 4,373 to 13,291, representing a 204 per cent increase over the 10-year period.
More important, in terms of why we have argued that the merger is an efficient way to rationalize the branch system, is the fact that the current rationalization process uses population. As the population has grown over the last 10 years, the branch network has declined.
We have a two-pronged process. We have the population increasing, and the number of branches decreasing. Clearly this is simply the result of technological substitution. Between the Big Five banks, there are 5.8 million registered telephone customers doing their banking over the phone. There are 1.6 million registered Internet customers doing their banking over the Internet. That is only for the Big Five.
We have data in our paper looking at smaller niche players that also have telephone banking and/or Internet banking. We need to understand the effect of population. Over the last 10 years the number of customers per branch has increased 12.5 per cent. At the same time, the number of customers per instant teller has decreased 63 per cent. We clearly have a substitution. The number of people per branch is increasing because the system is not expanding with the population, while at the same time the number of instant tellers is increasing at a pace faster than the population. This leads to greater service, and greater flexibility in terms of where you want to do your particular type of banking.
What we have stressed in the paper is that this goes beyond the purview of simply transactional banking. Transactional banking is cashing a cheque or making a withdrawal. Those types of transactions can be done over the phone or through the Internet. You can also do sales-oriented banking through the Internet and over the phone. The turn-around times are comparable through the branch and over the phone or the Internet.
Part of our paper was clearly stressing the effect of technology on traditional "bricks and mortar" banking. The most efficient way to rationalize the branch system, given the fact that we are moving to a technology-based financial services sector, is through a merger.
The employment numbers that have been thrown out by various studies do not control for certain things. The numbers in our study control for full-time equivalents. What our study shows is that, over the last 10 years, there has been a net gain in employment by the Big Five, even though there was a major recession in 1992, and even with the integration of the brokerage houses and the trust companies. Additionally, real wages have increased. We see a substitution of technology at the same time we see expanding employment levels and expanding wages.
Anecdotally, from my own experience in the banking sector, this has allowed for upward mobility. If we look at the branch 10 years ago, when I first started, we had eight tellers and two sales people. Now it is almost the complete opposite. We have three, maybe four tellers, and five or six sales people doing everything from RRSPs to mortgages to credit lines.
Further, we also see what we noticed in New Zealand, and that is that much more mobile banking is being developed. Individuals who work for particular institutions are not tied to a branch, but rather to a region. This is a recent phenomenon, because we did not see that before. Everything was tied to the branch. Our study argues that this is part and parcel of technological substitution.
For what is important in terms of the savings that are available through the mergers, I would credit Dr. Mathewson and Dr. Quigley, who did an expansive study that looked at Australia, the U.K., and New Zealand. They suggest that anywhere between 20 per cent and 30 per cent of non-interest costs can be saved through rationalization.
Per Canadian, those numbers translate into overwhelming savings-- between $1,000 and $3,000 over the next 10 years. Those types of efficiency gains in the aggregate numbers are $29.5 billion to $88.5 billion, depending upon which range of savings you would accept. Those numbers are documented in both our paper and the Mathewson and Quigley study.
We are talking about a material amount of savings that could be generated through the mergers. Something that we did not focus on in the paper, but that I would include in the presentation, is the fact that the rationalization process and the closure of branches leave an opportunity for niche players to get into those particular markets. If we see all five of the major banks with a branch, and if two of those branches are closed, that clearly gives an opportunity for other players to enter that market and contest it, provided that the entry barriers are removed. That leads me into our comments on the MacKay report.
We were quite receptive and quite supportive of the MacKay report and the recommendations included therein, especially in regards to contestability and competition. The removal of domestic barriers and foreign barriers would further the level of contestability and competition in the financial services sector in Canada.
We did have a few concerns. Most of them had to do with what I would deem peripheral issues within the context of the MacKay report. Mr. Mihlar will comment on those.
Some of those concerns need to be addressed, in terms of going forward with implementation of the MacKay report. One is access to the Canadian Payment Association and compensation for it. Clearly we need to discuss whether or not the new entrants to the CPA would have to compensate those institutions that have developed the CPA over time.
Additionally, the recommendations for merging the insurance system require a great deal of discussion, both on an academic level and on an implementation level. We need to consider the effects of creating a monopolistic insurer for deposits. The recommendation for fines and penalties would be onerous for managers and board members, in terms of not allowing them to respond to a quickly changing financial services sector.
Overall we are extremely supportive of the recommendations contained in the MacKay report, because it would clearly create a foundation that would encourage the financial services sector to go forward. We are on the verge of a major decision with regards to the role of technology in the future of the financial services sector. Bringing in the types of recommendations included in the MacKay report is important.
A side issue that is briefly dealt with in the MacKay report has to do with the regulatory process. At the present time, we have a competitive disadvantage relative to the United States. The single largest and most far-reaching financial services merger, which was between Citibank and Traveler's, was approved in five and a half months. That merger has enormous consequences for both the American system and the international financial services sector.
The Canadian system clearly needs to be redefined, and a broader discussion needs to be brought in for the regulatory process, in that the BMO/Royal merger is now in its ninth month of deliberations. We suspect it will take at least another six months to a year. We would stress the role of technology, the redundancy of the bricks and mortar notion of banking, and the need to look at this within the context of contestability based on the rational and empirical data that is available for the system.
Mr. Fazil Mihlar, Director of Regulatory Studies: The MacKay report recommends hefty penalties, fines, prison terms or criminal sanctions against boards of directors and the company itself if they do not follow certain objectives.
What we have to understand is that the financial services market, as much as any other marketplace, is dynamic. Therefore, the banks and the financial services industry will have to react in order to prudently manage their funds, depending on changes in the market conditions. To have these types of penalties and fines, and to restrict whether or not they can move their funds and whether or not they can close certain operations or layoff people is problematic, to say the least.
You will not have a prudent banking system if you have those types of fines and penalties against boards of directors or the companies. That is something to which the committee should pay close heed.
The Chairman: You essentially made the following statements: Number one, the number of branches is going down. That is true. Number two, the number of ATMs is going up faster than the number of branches is going down. People are switching because of technology. You then went on to make two statements with respect to the mergers. The example you used was that if there were five branches in an area, and three of them closed, there would be room for other institutions -- such as a local credit union -- to come in.
All of the evidence we have heard would suggest that a branch is a significant barrier to entry, in the sense that it is a hugely costly thing for someone to bring in. Therefore, you are unlikely to get, to use your word, "contestability"; a new entrant is unlikely to come in and fill the void created by the closing of two or three branches in an area. From your point of view, is that a fair assessment?
You also talked about the hundreds of millions of dollars that would be saved as a result of the efficiency savings. You did not say who was going to get those savings. Several people have raised an issue that is related to the terms of reference of the Competition Bureau. The question is whether those savings will ultimately be passed on to consumers, or whether they will accumulate to the benefit of the shareholders of the institutions incurring them.
As an economist, you may well tell me that the distributional impacts are of no interest to you. One of the great things about economics is that it assumes away what is the principal question of politics, which makes plain why there are very few economists in politics. Clearly, the distributional impact of public policy is as important to those of us in politics as the actual empirical savings are to economists.
Perhaps you could address both those questions.
Mr. Mihlar: One of the ways you can ensure that the savings are basically distributed to consumers at large is by having contestability in the marketplace. You have to remove the barriers to entry for foreign niche players to come in, such as ING and Wells Fargo, so that there will be the mere threat of the entry of firms.
The ability of firms to come in will ensure that the banks will have to send some of those savings down to the consumer. If you do not allow foreign competition and domestic competition to take place, the banks are certainly not going to behave like good boys and girls. The only way they will behave like good boys and girls is if you do allow for competition to come in, and that threat will ensure that they pass on the savings.
The Chairman: That takes you back to my first question, because it is one thing to allow competition to come in, but it is another to have it actually come in. The committee has heard evidence from U.S. institutions and foreign institutions. To put it bluntly, no foreign institution seems to have any interest whatsoever in opening up a significant branch network in Canada. I do not care how much we relax the rules. Sometimes you put on a stage show and nobody comes. That is the reality.
Senator Meighen: That is a worldwide phenomenon.
The Chairman: That is right. To pick up on the point raised by Senator Meighen, CEOs of major worldwide banks have stated categorically that a foreign player has never operated a retail branch network of any significance in any country in the world.
It is not that we are not in favour of opening it up. We are. I am stating that opening it up will not solve the problem that I have raised. Can you give me another answer?
Mr. Clemens: I would agree with you on your assessment of the likelihood of a foreign institution coming in and creating the bricks and mortar system of banking. Clearly, that was our argument about why the mergers process is an efficient way to rationalize. We no longer need the bricks and mortar system for these types of transactions.
Perhaps I did not state clearly enough that the ability of firms to come in and contest those markets is not simply based on bricks and mortar. Let us look at the experience of Wells Fargo in Southern Ontario. All its lending is done over the phone. It has a phone bank in Colorado, and has absolutely no physical presence in Southern Ontario. This gives Wells Fargo a cost advantage over Canadian banks or its competitors in the system.
I emphasize again that the real question for competition is contestability. Can financial and non-financial institutions enter those niche markets, regional markets or national markets without hindrance, and be able to compete at the same levels as the Canadian banks?
One of the fastest growing banks in the U.K. has no branches. It is completely electronic. The argument I would make is that the driving force behind the dynamism that we see is technology. Do the MacKay recommendations facilitate those types of competition?
One of the recommendations is to allow foreign institutions to open branches, as opposed to subsidiaries. Clearly, the removal of those impediments would increase the level of competition or contestability. I would agree that the possibility of a foreign institution coming in and taking over all those branches would be slim to none, given the fact that most of these branches would close because they have become redundant.
Senator Meighen: I think I agree. Does the MacKay report lack anything with respect to contestability, or can we saw that they are on the right track?
Mr. Clemens: I am a researcher, and I have been doing this for quite a while, but I was still surprised at the scope of the MacKay report.
Senator Meighen: You can live with what the report says? You are happy with it, and you support it?
Mr. Clemens: I would completely agree with the structural recommendations contained in the MacKay report, in terms of its ability to increase contestability or competition.
Senator Meighen: Should we or should we not be concerned with the example you gave of a financial institution selling a product within Canada while operating exclusively from outside our borders? Are they on a level playing field? Does that increase contestability?
Mr. Clemens: You are referring to the example of Wells Fargo and others?
Senator Meighen: Yes.
Mr. Clemens: The MacKay report would facilitate and encourage niche players such as those, and that is important. In terms of small business lending, the particular market that Wells Fargo went after is unsecured lines of credit up to $75,000. That is not what we want the banks to do, because of the risk profile of those types of loans.
Senator Meighen: What is wrong with that? If the risk is high, why should the rate not be high?
Mr. Clemens: I have no problem with Wells Fargo charging what they charge, given the market. My point is that Wells Fargo attacked a particular market within small and medium-sized business lending, and its ability to do so was facilitated by technology. The MacKay report's structural recommendations would further that contestability. If Wells Fargo opened a branch in downtown Toronto without having to create a whole subsidiary to operate in Canada, that clearly gives them a physical presence in the Toronto market, if they deem it necessary.
Senator Meighen: Why would they need it?
Mr. Clemens: Some would argue that a physical presence makes for marketability and personal contact. That may be the niche they have gone after. Finova has entered the Toronto real estate market with a portfolio of $300 million. The comment was that, given their niche, they felt they needed a physical presence.
The MacKay report recommendations allow enough flexibility and provide a level playing field so that individual companies can determine how best to market themselves, whether that is through a physical presence, or a more technological presence.
Senator Meighen: As best as I can tell, the niche that Well Fargo is exploiting has grown up because of the overwhelming physical presence of the Canadian banks. Therefore, if they price for risk, when they go to foreclose on their loans people will be standing outside waving placards and giving them a hard time. Perhaps Wells Fargo would be far better off to charge its very large interest rates on its very risky loans, and stay in Colorado. The company would not then be bothered by those who said it was gouging. That is an editorial comment, and you need not respond to it.
I have one question in terms of entry into the market, if I can use the old fashioned term "more players." We heard from Professor Bond before lunch. In his view, the way to solve that problem was to allow foreign entrants access to the ATMs I think he called for the ATMs to be fully functional. In that manner, no matter which banking institute I dealt with, I could go to any ATM and not only withdraw funds, but also deposit funds and do other functions that my own bank's ATM permitted me to do.
First, what do you think of the idea of removing barriers to entry? Second, in my own mind I was not clear how those who spent the money to put up the ATM network would be compensated for allowing someone to come along at the last minute and take advantage of it.
Mr. Clemens: We did not look at that particular question, but what you would see is non-proprietary ATMs That is, ATMs provided not by a CIBC or a TD, but by an ATM provider, which is very much the case in the United States. Canada does not have a non-proprietary system. That is to say, when you go to a grocery store, the instant teller is provided by one of the financial institutions.
My comment would be that we would want to look at the fee structure. Clearly what we would then see is fee structures from the provider of the instant teller to the financial institution, and then to the individual customers. That is exactly what we see in the United States. We see both transactional fees and proprietary fees.
Senator Meighen: Is the proprietary fee meant to at least partly cover the cost of development?
Mr. Clemens: That is right. I really do not know if that would facilitate or further electronic banking. Right now over half of all bill payments and cheques cleared through the CPA are done electronically. We are moving away from the type of transactions that Professor Bond may have been referring to.
I do not know how effective a non-proprietary system will be as we move forward. The technologies that we should be focusing on are things like direct payment systems, more advanced instant teller systems, and definitely telephone and Internet banking. The merger decision will have huge consequences for the development of Internet banking, as well as the proliferation of the Smart card. I do not know how large the effect of non-proprietary instant tellers would be.
Senator Meighen: That would leave us with no clear way to encourage more players at the retail level across the country.
Mr. Clemens: In terms of retail banking?
Senator Meighen: Yes. The foreign entrants presumably will only be interested in skimming off the high-margin segments, with as little presence as possible.
Mr. Clemens: In terms of a niche market, any foreign or domestic entrant would look for profitability. If there were a higher level of profitability, or if a particular market segment were not being dealt with or looked after appropriately or to the satisfaction of those customers, those companies would obviously go after them.
I was referring to the development of electronic banking. I do not know how far-reaching a non-proprietary system would be, given the current expanse of the network.
Senator Oliver: I would like to congratulate you on the excellent paper you have presented. Before I ask my main question, I would like to follow along the line of Senator Meighen's questions about technology, the use of ATMs, and full functionality. Neither you nor the people who made the presentation about full functionality and the ability to do banking and transfers at ATMs talked about the human element.
A number of seniors in Canada do not use, do not like to use, and will not use this type of equipment to do their ordinary banking. I would like to hear you advert to that. If we are to develop a policy for a new financial structure for the new millennium, we have to remember all Canadians. The demographics show that by the year 2005 there will be a few million more Canadian seniors. I do not know whether or not they will be more used to the technology by then, but it seems to me that we have to take this into consideration. I would like your view on that.
Mr. Clemens: I have two quick points. First, the phenomenon of mobile banking. I used to work in Southern Ontario, and in that market we had senior specialists who would actually go to seniors' homes to provide banking transactional services. Much of that is motivated by the fact that we expect to see a record amount of wealth transferral from seniors to baby boomers. We are talking about a market that the financial services sector will clearly go after and serve.
The proliferation of mobile banking responds to the needs of seniors. In many markets we are also starting to see specialized branches. The city I worked in had a population of only 200,000, but we had two branches dedicated just to seniors. There were no lineups, and seniors did not have to stand. The offices were accessible for wheelchairs or other equipment that aided seniors' mobility. These branches were very much tailored towards seniors and the services that they need.
Senator Oliver: Is there anything that we should keep in mind as we continue our study of the task force report vis-à-vis that issue and the protection of seniors? Are there some things we should recommend?
Mr. Clemens: I reiterate our support of the MacKay report. An interesting analogy that Mr. Mihlar made before the House of Commons was the fact that many customers want personal service. They do not want to go to an instant teller or use the phone.
Interestingly, Canada Trust fills that niche. Canada Trust has longer hours, and its focus is customer service. There are examples of specific financial and non-financial institutions that see a market with a potential for profit, and fill that market.
The MacKay report recommendations for structural changes would increase competition. I do not know if there are any particular, specific recommendations that would be needed to further the competition for seniors.
Mr. Mihlar: We are seeing the market respond to some of the needs of seniors. In Victoria, the bank is set up in a different way. For example, it ensures there are couches, comfortable seats, tea, and some cookies on the side.
The market is certainly responding to the needs of specific customers, particularly seniors. At Canada Trust, if you want branch banking you can get branch banking. The market will have to respond to those needs, because you are talking about seniors' money-backed demands. They have money in their hands, so the banking sector will respond to those demands.
Senator Oliver: When I read the task force report, what really hit me is that there are an awful lot of new sections where they say "in order to resolve this problem we have to regulate it." In some cases not only regulate, but also pass legislation. The legislation then has to impose certain fines if they do not do it.
It seems to me that that creates an enormous regulatory burden. I am struck by two paragraphs in your report, and I would like to read three sentences and have you comment on them. You said, on the fifth page:
One of the most important conclusions in the Report is that public policy should not, and cannot second-guess business strategy. Implicit in this statement is the acknowledgement that although the financial services sector is of particular importance to the economy due to its facilitating role in the allocation of capital, the institutions which form the financial service sector are nonetheless private companies bound by the maximization of profits rather than any type of social objective.
This morning someone argued that banks should be like a public utility, and that there should be a public policy that requires a branch to be located in every small area of Canada, no matter how profitable it is. Could you comment on that?
Mr. Clemens: The implication of that is that unprofitable branches should be maintained in order to serve some social function. Far more eloquently than I could, Dr. Mathewson and Dr. Quigley articulated why that is the last thing you would want to do in the financial services sector.
I refer you to the paper Mathewson and Quigley did for the C.D. Howe Institute, which says that, if we want to socialize or support certain services, cash transfers are the most efficient way to do it. The way not to do it is to legislate that a financial service company has to operate a branch in certain areas.
That is a very static analysis. Things change -- the economy changes, districts change, populations change. The more flexibility we have in the regulatory system, the more apt and able those financial institutions and firms are to react and provide the services demanded by customers.
I do not see any gain in terms of implementing social policy through for-profit corporations. What we have to recognize is that the Canadian financial system is one of the strengths of the Canadian economy as a whole. Our CPA system is something that we should be very proud of. It is probably one of the best -- if not the best -- transfer systems in the world.
Our suggestion and my emphasis is that the MacKay report's structural recommendations would facilitate the type of development in the sector that facilitates job growth and wage growth.
Mr. Mihlar: The banking system is the custodian of Canadians' hard-earned money, and it has to prudently manage our funds. We do not want to shackle it with responsibilities other than prudently managing the funds, and making profits and returns for the shareholders and pension funds. Banks are not social service organizations.
I am clearly a student of economics. I am not a politician, and I do not have any constituents to please. We have to ensure that the banks are not shackled with all of these regulations. Last year the banks paid $6.9 billion in taxes, and made $66 million in charitable donations. That is one way of ensuring that the community gets money back from the banks. You want to do it by way of cash, as Dr. Quigley and Dr. Mathewson point out in the C.D. Howe paper, rather than by interfering with the marketplace and strangling them in terms of their business.
Senator Oliver: I have told four witnesses that I have fears about unduly politicizing a business function. One witness said you should not have appeals to cabinet like they do with CRTC decisions. In your paper, you talk about the extraordinary discretionary powers given to the minister, and that he is the person on last resort on mergers. Your paper states:
The Report also fails to explain the need for the Minister of Finance to have the ultimate formal authority in granting approval for bank mergers.
Did you find other areas in the MacKay report where extraordinary discretion seemed to be given to the minister, perhaps unduly?Does giving that last discretion to the minister politicize this political function?
Mr. Clemens: No. The focus of this particular paragraph was on the time constraints, and also on the fact that we have some parallels with the U.S. system. Approximately 165 branches are in the process of being sold in regards to the Nations Bank and First America merger. Clearly the technical nature of that merger was sufficient that there had to be divestitures, yet that merger was approved in four and a half months, and will create the largest commercial bank in the United States. We are now in the ninth month of looking at the mergers, and we still have not had hearings on them.
Senator Oliver: Are you blaming that on the Minister of Finance? The Minister of Finance cannot act until he hears from OSFI, the Competition Bureau, and these others, and their reports are not out yet. Why blame it on the minister?
Mr. Clemens: The MacKay report suggests reforming the regulatory system to streamline it and get it more in line in terms of the time requirements. We commented, however, that they do not articulate the role of the minister.
In the United States, it is a referral role. What we were trying to emphasize is that there is no clear articulation of why the minister is included, given the fact that you have two able-bodied agencies that are able to produce reports on both the effect on prudential banking and the efficacy of competition. We suggested that that needs to be discussed. The role of the minister and the efficacy of having the minister in such a prominent role needs to be discussed, not simply stated or asserted.
Senator Kroft: I would like to come at this issue of contestability a little. You have introduced a word for us, but it is a concept that we have been dealing with, one way or another, all the way through this piece. What can you tell me number-wise about the real gains that Wells Fargo or ING or any of these other scouting parties have actually achieved? We are dazzled by their technique and the wonderful things they can do out of 10 square feet of space or from a home bank in Denver. What do we really know about the substantial, permanent kind of gains that they have made?
Mr. Clemens: Dr. Baumol and Dr. Demsetz, in looking at their important work on contestability, do not stress actual entrants. What they stress is the absence of barriers to entry. Dr. Demsetz looked at public utilities and said that the real impediment to competition is not that there are not 10 providers of utility services, but rather that there is a regulatory burden in that you cannot offer an alternate service. The monopolist is able to do whatever the company wants because there is no threat of competition. Contestability is to be viewed in terms of the presence or absence of barriers to entry.
With regards to Schedule II banks, each of the Schedule II banks is a niche player. The Hongkong Bank of Canada is overwhelmingly the largest Schedule II bank, and it really only competes in B.C. and Ontario. Approximately 99 per cent of its branch operations system is in one of those provinces. It is important that any financial institution be able to contest a particular market.
Senator Kroft: The concept of contestability rests on the absence of obstacles. Let me come back to reviewing some things that we picked up along the way. One of them is this issue of technology.
I have been in business all my life. We all have the transactional element in our personal lives, and more and more that is dealt with through technology. When critical business decisions are made, however, at whatever level of business, I would think that the heart and soul of banking is still done on a face-to-face basis. That is where the banker gains an understanding of what I want to do, and where I gain an understanding of the options or possibilities that the banker lays out.
That personal contact cannot be substituted in an electronic way, and I have heard nothing over the course of the last month to suggest that it could be. To me, that is still overwhelmingly the heart of where banking and commerce in this country come together. It is across the desk of a businessperson or a banker. It may be in a larger branch with four salespeople and two tellers or some mix, but the core is still in that type of a structure.
I have a personal feeling that we are getting enormously carried away with the idea that all of this can be replaced, technologically and electronically. More than anything, it tells me that the fundamental premise of your statement of contestability is deeply flawed. I do not see how banks that lass the infrastructure of these massive Canadian financial institutions have a whisper of a hope of contesting, in your language, the core banking business that underlies the commerce of this country.
I invite your response to that, because I am not persuaded by Dr. Anybody that that is how a business can get a $2-million or $2.5-million line of credit and all the other things that go into making a business work. I have to tell you I am not buying it, but I am prepared to be convinced if there is some new magic there to convince me.
Mr. Clemens: I would respond with a recommendation from the MacKay task force. The report clearly says that one of the problems in small and medium-sized lending is commercial account turnover. If there were actually a situation with an elongated relationship between the commercial banker and the customer, you would not see a high rate of turnover.
One of the specific recommendations in the MacKay task force is that there be greater education and career path development so that the rate of turnover in commercial account managers in the SME market --
Senator Kroft: The banks have all been seized of that problem for years and have been making major progress.
Mr. Clemens: I am responding to the fact that if the commercial banking relationship were such that it were a protracted relationship, if you had the same account manager with the customer, then you would not see the complaint of high turnover. In the commercial centre where I worked, there were 13 account managers within nine months, and none remained after nine months; every one of them had moved on. I would somewhat disagree in terms of technology.
Senator Kroft: Whether or not they have a management problem, are they not infinitely better off than the foreign bank, that has no manager at all?
Mr. Clemens: You are talking about an on-site manager?
Senator Kroft: I am. I am talking about the person who is there to do banking business with me.
Mr. Clemens: I was trying to respond to the comment that the relationship in SME lending and commercial accounts really is not that the account manager stays there for 15 years or 20 years. There is a high rate of turnover. Clearly there are alternate methods of delivery.
Senator Kroft: I do not follow that lead. If there is a management problem, the bank has to do a better job. Because the managers are turning over too much does not mean that you do away with the managers.
Mr. Clemens: I am not being clear enough. If the commercial account relationship were based on a protracted relationship; if the same commercial account manager remained with the customers; and if that was the foundation of the SME lending market, then the MacKay report would not make such a specific note of the fact that turnover at that level of employment in the banks is a problem.
Senator Kroft: He made the recommendation because he had heard again and again that the banks, to do their job better, should have a more long-term relationship. I am not sure how that relates to the questions I put to you. I am saying whatever their problem is, they are still far from contestable as compared to somebody who does not have that structure in place at all. I am trying to get to your theory of contestability. I do not think that the Canadian banking system, at the on-the-ground commercial level, is nearly as vulnerable as you suggest.
Mr. Clemens: I wish the theory were mine.
Senator Kroft: That is the theory you are putting forward or adopting as your own.
Mr. Clemens: I would refer to two separate studies, Nathan and Neave, as well as the Shaffer study, that specifically looked at the Canadian financial service sector and deemed it to be relatively contestable. It is important that foreign or domestic entrants are able to enter those niches. The technological advances that we have seen have allowed those types of developments. You would not see companies such as Wells Fargo contesting specific markets unless they thought it was profitable.
Senator Kroft: As yet, I do not have any idea how successful they have been with that. If you had told us 10 years ago that Citibank would come in and take over a certain area of the banking industry in Toronto, we would have panicked. Try to find them five years later. I am not saying they are not trying, but it is the succeeding part that I am questioning you about. We do not have much data in support of the fact that they are succeeding in any major way.
I should say to Mr. Godsoe, even though he does not go for dinner with his former colleagues any more, "let them come." They have tried and tried over the years, but have not gotten anywhere, and he is doing more business in New York than they are doing in all of Canada.
Mr. Mihlar: Certainly any firm -- including financial institutions -- makes decisions based on marginal costs of entry into a marketplace and the profits that it can make. We have foreign and domestic barriers to entry for firms coming in today. In the last 10 years, firms have tried to come in, but at the margin it is rather a costly enterprise to come in here and compete with our big guns.
The real gains come when somebody like Wells Fargo, operating out of Colorado, lends $50 million in unsecured small business lending, because concerns have been raised about the lack of small and medium-sized lending in this country. If we remove those barriers at the margin, those costs of entry will be lower. Therefore, you will see more Wells Fargos coming in after you remove all of these barriers, and there will be some competition for the existing financial institutions.
Mr. Clemens: The role of technology is in its infancy. Telephone banking emerged within the last years. I would agree that the data is limited, given the fact that the proliferation of these types of technologies is limited. When I was banking as of one year ago, none of the cash management systems were integrated or able to integrate directly with companies' system. That meant that the cash balances in a company's actual accounts at the bank were not directly tied to their own system. If those types of technological developments can link those communication systems or create those types of technologies, the markets clearly become more contestable because it is easier for companies like Wells Fargo or Citibank to enter the market. Our emphasis in the paper was the role of technology moving forward.
Senator Kroft: For the basic banking transaction that takes place between a banker and a client, no technology will replace that function. I guess that is the core of my "counter-contestability" argument.
Senator Perrault: Mr. Chairman, this is an interesting and useful paper. During the course of your remarks to Mr. Clemens, you talked of the dramatic changes taking place out there in industry, and you said that more transactions are done by telephone and the traditional bank is suffering a decline.
I visited one of my favourite local banks a couple of weeks ago, and only two tellers were operating out of six or seven wickets. However, there was a nice area for counselling senior citizens on how to plan their retirement, which is very useful for the senior citizen.
What future actions do you anticipate will occur in the banking industry? We are apparently going through a technological revolution now. What is the next step?
Mr. Clemens: I wish I knew that -- I could go into consulting for the banks. Clearly the role of technology will be more prominent. Software is coming out of non-financial institutions. We did not discuss this in our paper, but I would suggest that one of the major threats comes from non-financial institutions, such as software developers, developing systems that effectively eliminate the need for intermediaries. Those are the types of competitors that we may see entering the marketplace.
Senator Perrault: Are you suggesting there could be unemployment and further cutbacks in personnel for the banks if that takes place?
Mr. Clemens: I would suggest that you will see the same type of phenomenon that you notice now. For instance, the tellers that are not there any more are not actually outside of the bank, they have moved up; there is upward mobility.
Senator Perrault: Possibly. When you talk in terms of this trend developing in the industry and more and more banking done by telephone, it is a process which has been encouraged and accelerated by the banks themselves often, it is alleged, just by benign neglect. In other words, if you cut back on services enough and lay off a number of people, inevitably will be a switch to other forms of banking. I am not against the other forms. I think they are excellent.
Mr. Clemens: I would not necessarily disagree. Niche players, like Canada Trust, are the foundation upon which the financial services sector rests. Canada Trust is not going to push you to use the instant teller or the Internet because their real comparative or competitive advantage is that they are open six days a week from 8:00 in the morning until 8:00 at night. If the market for those types of services is large enough, both financial and non-financial institutions will react.
Senator Perrault: Some people are a bit psychologically intimidated by the idea of banking on the telephone or by using a keyboard. One of the greatest essays I have ever read was Stephen Leacock's essay about his attempts to open an account in a bank in Eastern Canada. He was in the bank for five minutes, then the bricks and mortar and other aspects intimidated him.
Some people have a difficult time coping. Do you have any age brackets that suggest the percentage of people who do their banking with the new technology and from what age they use it?
Mr. Clemens: Most of that data is proprietary. The banks do not release that type of data. I worked all the way through my schooling and worked full-time in the banking sector for nine years. From my experience, if you can get seniors to use the instant teller machine -- which I readily admit is a huge step -- they are one of the highest users. The percentage of seniors relative to young people that use it is lower, but their rate of usage is high. My grandmother probably does not go into the branch any more -- and I am sure the tellers blame me -- but it is more convenient for her not to go to the bank.
Senator Perrault: She is not afraid to try the technology?
Mr. Clemens: She does all her banking over the phone and gets cash through the instant teller.
Senator Perrault: What specific actions could be taken to increase contestability? There has been quite a discussion today. Do you have two or three initiatives? Or is it just freeing the banks and allowing them to come in with the minimum of regulation?
Mr. Clemens: On the first page of our document, we highlighted the MacKay task force recommendations. I was quite surprised at the scope, for instance, of the recommendation that would allow for community-based banking in terms of reducing capitalization in their regulatory burden. Again, I would wholeheartedly agree with all the structural recommendations included in MacKay.
Senator Callbeck: One of the areas of concern that you mention in your brief dealt with the MacKay recommendations on small businesses and their access to capital. The first was that there has been some discussion about the rapid turnover of account managers. Another one was price for risk. The third one was where MacKay pointed out that the problems are more with equity, and that institutions should be encouraged to take an equity position.
You go on to say that you have problems with all of these, and that you think the solution is to change the taxation system in regard to capital gains and dividends. If that was done, would that solve the whole problem, or do you have other recommendations here?
Mr. Mihlar: We made a presentation on the Small Business Loans Act to the House of Commons Standing Committee on Industry. A lot of concern has been expressed about small business lending and inadequate lending. Most of the surveys done by the CBA, amongst others, seem to suggest that the loan approval rate in the first instance was around 92 per cent in 1997. That is a very high approval rate for loans in the first place. Most of the time small and medium-sized enterprises usually manage their cash flow problems with respect to accounts receivable, accounts payable, and inventory. In terms of capital financing of those small and medium-sized enterprises, our argument is that sole proprietors and partnerships own most of the businesses.
Surveys from Statistics Canada also show that most of the small and medium-sized enterprises finance their services by services and retained earnings. If that is the case, we want to make sure that personal income taxes are reduced so that they have savings, which they can then plough back into their businesses.
Mr. Clemens: I would quickly reiterate Mr. Mihlar's comment that a 1996 Statistics Canada report found that the chief cause for bankruptcies was difficulties in management, and they particularly noted financial management. Within that, they noted capitalization structure and working capital. So, if we really want to encourage capitalization and equity financing, the easiest way to do that, the clear-cut way with very little distortional effect, is simply to reduce corporate and individual taxes. A corporation is taxed at the corporate rate, and a sole proprietor or partnership is taxed at the individual rate.
Additionally, on the capital gains rate, we see a very strong relationship between venture capital investment and capital gain tax rates. In the United States, there is a 1,400 per cent increase in the level of venture capital investment because of President Reagan's tax cuts in the early 1980s.
When we are talking about expansion into a new market or the development of a new product, we are really talking about high-risk capital.
While researching the presentation that Mr. Mihlar and I made, in 30 minutes I found 60 companies on the Internet that were involved in venture capital financing in Canada. I also found another association that had another 108 companies. Last year, venture capital funding totalled $1.8 billion. The question is, how do you facilitate that type of investment? Clearly, we need to reduce the capital gains rate and reduce corporate and personal income taxes.
I would reiterate that the banks have a large amount of money in loans outstanding to SMEs.
Senator Callbeck: I would like to ask a question on the community accountability statement. I did not see anything in your brief about that. Do you favour that recommendation or not?
Mr. Clemens: I would agree with the MacKay task force that we do not see "red-zoning." In the United States, we noticed that financial institutions would red-zone certain areas, usually urban cores, and say that no matter how valid the investment, no money would be put into those zones. I would agree completely with MacKay that we do not see that phenomenon in Canada. The impression I got from MacKay was that it was a discussion of community reinvestment. Given the fact that we do not see that phenomenon in Canada, however, that was not needed, and I would agree with that.
Senator Callbeck: He went on to recommend the community accountability statement. Do you agree with that? It is different than the reinvestment.
Mr. Mihlar: Right now the banks are involved in community activities through charitable activities and volunteering. At the same time, they pay a huge chunk of taxes. As I stated previously, last year they paid $6.9 billion. By and large, the banks will be voluntarily accountable to their communities. The notion of having a regulation or legislating it is the wrong direction to take. Certainly, the banks have the incentive to be good corporate citizens, and to that extent I think we should let them do it, without regulating or legislating it.
The Chairman: Our last witness this afternoon is Mr. Larry Pollack.
Mr. Larry M. Pollack, President and Chief Executive Officer, Canadian Western Bank: Mr. Chairman, honourable senators, I thought it would be useful for me to explain who we are and what we do. We are unique in Canada. We are actually a Schedule I bank, one of eight, but we are not located in Eastern Canada at all. Our head office is in Edmonton. We were formed in 1984 as an alternative to the Big Six banks. We are totally western-focused, which means from Manitoba west.
We did an IPO in 1984 for $40 million, and raised all tier-one capital. We were not able to raise any tier-two capital at that time. We cater to primarily medium and small businesses, that is our focus, and 85 per cent of our business is in the medium and small business lending area. That is real estate construction, oil and gas, industrial financing and leasing, general commercial, and person loans and mortgages. Our focus is on the first four areas, which are commercial. Our loan size varies pretty well from $1 up to $20 million, it is quite a range, but most of our loans are in the $500,000 or less category, which would fit your small and medium case.
We have 23 branch locations from Winnipeg to Courtenay, B.C. We have two subsidiaries, Canadian Western Trust and Canadian Western Capital, both located in Vancouver. We have about 500 employees. Our funding comes from raising primarily retail deposits. They are raised from two sources: the first being agents who operate right across Canada. We have approximately 200 agents who raise deposits for us. Secondly, we raise deposits in branches. We are publicly listed on the TSE, ASE and VSE. At present, we have $230 million in regulatory capital and assets of $2.4 billion. We have 9,036 borrowing clients. Of those, 4,327 are medium and small businesses. We have always been profitable.
Mr. Chairman, because we are one of the only small banks that started up in Canada, I thought it would be useful for your committee to hear some of the impediments that we feel we have experienced over the 14 years since our inception.
Capital tax is certainly a major component and a hindrance to growing and developing a bank. If you raise capital, and you start paying tax on it immediately -- and I realize most of it is provincial -- it is a huge impediment. It not only eats up your tier-one capital, it also eats your potential to raise tier-two capital because you can only have half as much tier-two as tier-one. To start up small institutions that have to pay capital tax immediately is a huge impediment.
To keep this in perspective for you, we run business forecasts. In the years 2002, 20 per cent of our net income will be capital tax. Twenty per cent is huge. That is primarily because we operate in Manitoba, at 3.25 per cent capital tax; in Saskatchewan at 3.25 per cent on tier-one capital and 3.25 on tier two capital as well; Alberta at 2 per cent, and British Columbia at 1 per cent. It is huge, and you have to make a very large spread.
To keep it in perspective as well, we raised some tier-two capital in Saskatchewan. We paid 6.75 per cent on the capital, and then we were taxed at 3.25 per cent. Our cost was 10 per cent.
Access to capital is a concern for small institutions. If they are going to start up, how are they going to gain access to the capital markets? That question will have to be dealt with. When you start a new financial institution and you start growing a bank, you have to set up reserves. Those reserves are the stripping down of your tier-one capital. You are taking funds out of your retained earnings or your tier-one capital as a direct charge, and putting it into reserves. Those are not tax deductible initially until you use them, so they are parked. That is a big issue.
On capital composition, when you start a new financial institution you can raise tier-one capital in the market by doing an IPO, but you cannot raise tier-two capital. It has to be rated, and nobody will rate you when you are just starting out. That is a big issue.
You need a solid CDIC insurance system. Our levels of insurance in Canada are too low at $60,000, and should be looked at. In the U.S., it is $100,000, which is the equivalent of CAN$150,000. It might not be important to the big banks, but it is important to be insured when you are starting up, because otherwise people will not leave their money with you.
You need a supportive regulatory system that is cost efficient. Another impediment that we have experienced is the history of small banks. Certainly, we still hear about the Canadian Commercial Bank and the Northland Bank that failed. Northland is in the final process of being wound up now, and it went down in 1985.
I am also concerned about competition, primarily on the deposit side with credit unions. Credit unions have unlimited insurance in provinces such as Alberta. They also have favourable income tax rates, and they have capital tax exemptions in some provinces. We have to get out on the street and compete with them for those deposits and then convert those deposits as an intermediary into small and medium loans. It is quite competitive. It is not competitive for us to rely on the commercial lending side. We do not find them competitive in that area.
Where do you draw the line? I would suggest that if you are going to support smaller financial institutions, you do not draw the line by segmenting out what type of institution you are, for example, a credit union or a trust company or whatever. You do it by size, and then you include credit unions, trusts and banks all in the same category.
Senator Oliver: Do you do it by asset size?
Mr. Pollack: Yes, not by type of institution. That way, you are not favouring credit unions in the tax environment, or favouring trust companies in the regulatory environment, and it is fairer.
I have heard the suggestion that 10 years of a favourable tax position should be given as a start-up. I do not think the 10 years means much. What if that institution was just starting to become profitable in year seven, eight or nine? Knowing that it would be fully taxed in the tenth year, it would not be able to raise capital. If it had ratings, they would be reduced. There should be some other measure, such as profitability or a success measure, as opposed to a time measure. I do not think time is relevant.
Mr. Chairman, I wish to talk about some of the items in the MacKay report and then I will respond to questions. I have ranted and raved about taxation. That concern was dealt with in the MacKay report very well. Capital tax is very counterproductive when you consider that you are trying to find means and methods to finance medium and small businesses, and then the government turns around and taxes the very capital you need. You need a high level of capital to finance businesses: 10 per cent is the minimum regulatory limit. To do mortgages or CMHC mortgages, you need very little capital. If you want business financing to take place in the country, do not tax the capital that is needed to do it. It is very discouraging. It also discourages safety and prudence. If you have less capital tax you will carry more capital. Therefore, there will be higher reserves and it will be a safer institution for people to deposit with.
One of the problems with taxation is that all the provinces are different; that should be standardized. It certainly discourages one from entering the highly taxed areas for lending. Why would you lend in an area where you have to pay 4 per cent capital tax? You would rather lend in a market where you pay 1 per cent. You will see banks shifting their focus.
I heard a question earlier about community focus. Why would you focus on making commercial loans in Moose Jaw, Saskatchewan, when Saskatchewan will charge 4.25 capital tax on your total capital base, including tier-two?
The Chairman: Whereas in British Columbia it is 1 per cent.
Mr. Pollack: Yes. Perhaps we need some form of financial institutional tax rate, or perhaps we need to restructure the tax environment.
Capital adequacy is another item that I would like to touch on. It ties into reserves and into capital tax again. If you have to carry a high level of capital to do small and medium-sized business loans, there should be some other incentive for you to do it because financial institutions like credit unions primarily focus on mortgages, which require half the capital. Conventional mortgages require half the capital of conventional lending. CMHC requires zero. You do not need any capital for a 90 or 95 per cent CMHC mortgage in some little town, somewhere, even if it could be highly risky. But I could lend to a viable small business in Vancouver that secured half its loan with cash and gold bricks and I would still need 10 per cent capital. Those things should be looked at.
I would suggest that the time involved in this process should be moved along because the bank year-ends and everybody else's year-ends are either October or December. Business plans are in process now. How do you put together a business plan when you do not know what the regulatory environment in the Bank Act will look like? Everyone is sitting on their hands. It should be moved along as quickly as possible.
Earlier, I mentioned CDIC insurance. We should have a good CDIC system. I do not think co-insurance will work. That has been discussed. We should consider increasing the limits. On risk-based premiums all I will say is: Do not penalize the small institutions. Smallness is penalized in the rating system by DBRS and CBRS. Regional focus is penalized, and then CDIC will penalize you in your premiums because you are small and regionally focused. I think that should also be looked at.
I know your mandate is not to discuss mergers. Let me say that our bank does support the mergers, however. They will free up some market share, and allow smaller institutions to be viable. I would suggest that we do not weaken or try to weaken the big strong banks so that you can foster a new group of banks or financial institutions up from the bottom. I would not suggest in any way, shape, or form that we try to weaken our banking system. We have one of the best banking systems in the world.
Pooling is something that we have to look at on the accounting side. In terms of ownership rules, there is a lot of merit to concentrated ownership for small financial institutions, because you might have a very strong parent that can supply capital and can assist in the ratings. It might be a parent or a major shareholder, and it could be a major commercial entity in a region that thinks that region could or should have a financial institution. The process would have to be very closely monitored.
In starting up small institutions, you have management risks, capital risks and all kinds of risks that could take place, and they may not be apparent at the outset. It may strengthen small banks if the ownership is concentrated, because you will have those perceivably strong institutions -- perhaps a life company owning a piece of a bank that can supply capital, direction and systems support. Access to capital will be improved significantly. All you have to do is look at the Hongkong Bank in Canada. It can gear its capital almost precisely to the right levels, because its parent lends the correct amount of money to keep the ROE up as high as it can, and they have the right mix of tier-one and tier-two capital. They can operate very efficiently by having a very strong parent.
Foreign competition does not scare our institution at all. We do not believe we will see a lot of banks from the U.S. rushing into Canada and opening branches. That will not happen. What we may see is monoline competitors in certain areas come in and maybe concentrate on one or two segments of the market.
We have a good regulatory system in Canada. We own three different institutions: a bank, a trust, and a brokerage firm. They are all regulated by different entities, but we are, in fact, one entity. Should we not be regulated by one entity? I would leave that with you.
The other question I would ask the committee is, do we need trust companies? The banks own most of the larger trust companies in Canada. We own our own trust company. It does not do much that is materially different from what the bank does, but it has to have separate capital. Its capital is taxed on top of the bank's capital; it is doubled up. We pay capital tax on the capital in our trust company, then we also pay on the bank's capital, which includes the trust company, so we pay capital tax twice. That is here in British Columbia.
On the regulatory side, we should find a system to link capital adequacy, general reserves, and capital quality together. If you have a 15 per cent capital adequacy test, and have to carry the same reserves as a bank with a 10 per cent capital adequacy test, you should be given some benefit for having a higher amount of capital, which makes you a safer institution.
Canadian institutions should be allowed into auto leasing. Auto leasing is the second largest purchase or lease by the consumer, and it is controlled by foreigners. GE Capital, which is bigger than the Royal Bank, can lease cars in Canada, but the Royal Bank cannot. I find that incredible and it should be changed. That does not make any sense to me at all. You are preventing your own financial institutions from doing something. I think you could help the consumer because if the Royal Bank can come up with a better lease than GE, why should it not be allowed to do so?
There is some merit to insurance sales. You could support your bricks and mortar out there by allowing the banks to sell more products. If they can deliver more products, it might make sense to keep the branches open. If branches are limited by the number of products that they can sell, that will limit the value of those branches.
It also adds potential for a small bank. For a small bank just starting up, it is another product; it is fee income that could be quite lucrative. It dovetails into what the insurance companies are asking for, which is access to the payment system and the ability to utilize the CDIC system.
The last point in the MacKay report is the holding company structure. It is widely used in the U.S., but I am not sure that it would be useful in Canada.
Senator Oliver: Thank you for an excellent presentation. It is good to hear from the Canadian Western Bank, and I am glad you gave us some background information. One of the things at the heart of the study we are now doing is what can be done to create more tier-one and tier-two banks. The explanation you have given of yourself as a small tier-one bank has been incredibly helpful.
If I could summarize what you have told us, the two biggest problems facing the start-up of new tier-one banks are the regulatory burden and taxation.
Mr. Pollack: Taxation, certainly. The regulatory burden is necessary. It does not really prevent you from being successful, and it can be helpful in some respects. It is costly, though.
Senator Oliver: What advice do you give us? What should be done to encourage the start-up of more tier-one banks in Canada?
Mr. Pollack: Concentrate on the tax side, and I think you will see some start up. Allow them to get into segments of the business. Perhaps a bank might start up as a leasing bank, a bank that specialized in leasing, or you might have one that almost specializes in a monoline, like Newcourt Credit where they do equipment financing.
Senator Oliver: What advantage would being a bank give Newcourt?
Mr. Pollack: Absolutely none. They probably would not have been successful as a bank.
Senator Oliver: Exactly because they are unregulated.
Mr. Pollack: Exactly. If they collapse, they will hurt a lot of individual investors because a lot of investors bought stock. If you are a bank and you are regulated, it is a more controlled environment. Why should the bank be put at a disadvantage in order to compete with Newcourt? We compete with Newcourt, GE Capital, and the leasing companies out there on the street every day. They are unregulated, and they do not have the same capital requirements that we have. They access the commercial paper market, so they are not accepting the deposits.
There is not the same amount of risk for the consumer out there, but there are significant investments in those firms via mutual funds and pension funds, which is also the consumer's money. We are regulating the CDIC direct deposit. We are not regulating where that pension fund or mutual fund puts its money, and that money is also at risk.
Senator Oliver: What other things should this committee consider when trying to bring more tier-one banks in Canada for the purposes of more competition?
Mr. Pollack: You should consider access to capital when starting out. If there is a favourable tax environment, there might be investors who are willing to invest in an IPO in a new bank. We started one up in Washington.
Senator Oliver: For tier-one and tier-two?
Mr. Pollack: Yes. It is very difficult to raise tier two initially. It is a slam-dunk for the big banks, but it is certainly a terrific struggle for us. In 14 years of visiting with the rating agencies, we have seen that they are not interested in rating a small, regionally-focused bank, period. We just accept that, and we have done convertible debenture issues which, adding the sizzle of being able to convert into the common equity, have been a useful instrument for us. We have two trading on the TSE now that have been very successful.
The only pure tier-one subordinated debt issues we were able to do were privately placed. One issue is with an insurance company, one is with the Province of Saskatchewan, and one is with the Province of Alberta, because they actually did their own due diligence and did not require a rating.
Senator Oliver: Do you issue your own credit card?
Mr. Pollack: No. There are so many credit cards. We surveyed our clients, and the average client has three. We asked them if they wanted any more, and they said no. So why would we do that?
If you ask average business people if they would like an alternative to going to the Royal Bank or the Commerce with their hats in their hands, however, the answer is "absolutely." Ask them how they would like it if we came out to their premises, sat down with them, and did the deal, and they say, "we would love that." We had a client yesterday who tore an ad out of the Westjet magazine and phoned all our branches. Our guys went out and saw him, and we actually did a deal. He was a Royal Bank client.
Senator Oliver: Do you do home visits?
Mr. Pollack: We spend a lot of time making calls, and that is part of the credit process. We do not think that you can sit in your office and actually assess how well a business is doing. You have to get out there and kick the tires.
Senator Oliver: You said that foreign competition does not scare you. You did say, however, that we may certain monoline banks coming in and concentrating on one, two or three things. You did not tell us whether the entry of monolines that do one particular thing such as residential mortgages -- like you do -- or just credit cards would scare you. Does that scare you, because they cut their cost very, very low?
Mr. Pollack: Absolutely.
Senator Oliver: They will not have Canadian overhead and taxes.
Mr. Pollack: We are not afraid, provided they are treated exactly the same way that we are. If Bank America can come into Vancouver and make commercial loans without having any capital in Canada, while I have to have at least 10 per cent, then I will not get the same returns. They will get an infinite return on anything they do, and I will get a return after I have already raised 10 per cent in capital and paid capital and income taxes at the very high rates that we have in Canada.
As long as they are on the same level playing field that we are, I do not see them actually being too competitive, especially on the lending side, where your average spreads in the U.S. are 400 points plus, and in Canada they are 200. Why would they want to employ their capital in Canada? The 200 points we get here are really an indication of the competition out on the street.
Senator Oliver: In terms of deposits, is ING bank giving you any competition?
Mr. Pollack: They probably are. It is hard to determine that.
Senator Oliver: Are people withdrawing certificates of deposit with you and stating that they are going where they can get another half point?
Mr. Pollack: We raise deposits through about 200 agents across Canada. We raise a lot of money in Ontario, and we do not lend any there. It is difficult for us to determine if any of those depositors end up going to ING, but I doubt it. Our rates are usually just a tick higher than everyone else. We survey the rates on a daily basis, and we post rates in the agent market. We harvest these deposits into our operations in the west. In Vancouver, our deposit office raises about $800 million or $900 million in that market, all in $60,000-or-less instruments. Then we redistribute that money back into small and medium business loans.
We could not put it into mortgages. ING is lending money in mortgages at 6.5 per cent or 6.25 per cent. There is not enough spread for us to make a decent return doing that. Besides that, the mortgage business is well served in Canada now, and it is very competitive. I do not think you need another player.
We have tried to find niches such as the commercial lending sector, which is below the radar scene of the big guys. It is not profitable enough for foreign competitors, and everyone on the street loves to talk to you when you are lending money. We have found a niche that could be exploited, and we have had a growth rate of 18 to 20 per cent a year for the last nine years.
Senator Oliver: The word niche is in my final question. Would you call yourself a niche bank? As I understand it, you are basically involved in gas and oil. You have a bit of real estate, but gas and oil is basically your niche. Is that correct?
Mr. Pollack: We are located in Alberta, and we have about 40 per cent of our business there, so a lot of it is related to oil and gas. We are a niche player, absolutely. We specialize in certain segments of the market. If someone wanted to borrow on a telephone company or on a large corporation like Molson's, we would pass. We do not participate, because they are too large for us.
Senator Oliver: As a bank that specialized in the needs of the oil patch and gas, does that mean that you are looking at setting up and doing some work in Newfoundland with Hibernia?
Mr. Pollack: No. We further confine the niche by geography, which is Winnipeg west. To service a network that is Canada-wide -- and Canada is an awfully large country, as we all know -- means too much travelling. By locating our head office and credit department in Edmonton, which is in the centre of Western Canada, we are able to service it all. Our furthest point from our head office is Winnipeg, which is less than a two-hour flight away.
Senator Oliver: I was very happy and interested to hear you say that, if the mergers went through, you would see an opportunity for your bank because of the spinoff that would ultimately come from that merger.
Mr. Pollack: Yes, absolutely. If the Bank of Montreal and the Royal Bank merge, I do not think that they will be the same size as they were before the merger. They will lose something after that. They will not be able to retain some segments of the market.
Senator Oliver: Some of those market segments will come to you and help your continued growth, right?
Mr. Pollack: Yes, absolutely. If you read their strategies, that is where they are steering.
Senator Kenny: Thank you Mr. Pollack, for the course in bank start-ups 101. We all found it to be a very interesting presentation. I have a series of unrelated questions. You described how the cost of some of your money was 10 per cent. What do you do with 10 per cent money?
Mr. Pollack: We lever it about 12 or 13 times. We cannot actually make money. If all we did was lend our capital out, we could not make any money. I was trying to make the point that the cost of that capital is so extremely high that if you raised $100 million and lent $100 million out, you would be broke in no time because you would be paying capital tax at very high levels.
Senator Kenny: You talked to us about your difficulties with tier-two. You did not have any solutions. Are there any solutions?
Mr. Pollack: I just refused to take "no" for an answer, and that is what institutions should do. With the right regulatory environment and the right capital structure going in, you might attract tier-two capital. Right now, if you are starting up a bank in Saskatchewan and you are going to raise tier-two capital -- who would ever give it to you when it is being taxed away? The tax situation is a major impediment.
Tier two or debt markets in Canada have not been well developed until recent years. They are starting to develop, and we are seeing a lot of double B, single B credits being able to go into the market and raise money. As time goes on, that market will be developed anyway, without forcing it too much.
Senator Kenny: You talk about the $60,000 insurance limit. Can you make the case for that for the committee, please.
Mr. Pollack: Owing to our situation and our growth pattern, we would not have been able to make it without CDIC insurance. You are probably not familiar with the agent network, but it is enormous out there. We have one agent in Winnipeg who has more than $500 million under his control. For example, if someone has an insurance settlement of $300,000, they will bring it in. The agent has 10 financial institutions that are all CDIC insured, so he will put $60,000 with every one of them and break it up so that their client is not at risk.
That client does not pay that agent a commission; we do. We usually pay 25 basis points per annum for those deposits. But we have no investment in bricks and mortar. All we have to do is process the paper and harvest the money. That client really is not our client. The agent takes the cheque in our name, though, so that we are not at risk that way and there is an agency agreement is out there. It is a very efficient system. The big banks are just catching on to it now, but we have used this system since we started. We are one of the bigger players in that system.
Senator Oliver: You are on TV now.
Mr. Pollack: I want to look good for our agents.
Senator Kenny: You talked about the burden you carry with reserves. Do you have another solution? Is there another way around it?
Mr. Pollack: Ultimately, your reserve is your capital base, especially your tier-one capital base or common equity and retained earnings. OSFI has left the door open to assess how much reserve each institution actually needs. If it is large enough, you might be able to dovetail in a higher capital base to requiring lower reserves. There is also the lending profile and asset mix of your loans. How risky are they? What is your track record over time?
All these things are being looked at, but I would tie in the size and quality of your capital. If somebody like us -- say the National Bank -- is very high in tier-one capital, and their lowest limit is seven and if you are at eight or nine, you should not require as high reserves as someone that is at seven, someone who stays right at the bare minimum.
Senator Kenny: You are talking about a very sophisticated and large OSFI, are you?
Mr. Pollack: Yes, but they are flexible. We have received letters in the last couple of days on this matter, and OSFI wants the banks themselves to develop their own methodology for determining what their reserves are. They will have something to say about it at the end, but I do not think it is a system that we should be lax in. I think you need it because, in the long run, if you allow some small institutions to start up without reserves or much capital, and they fail, it will hurt the other ones going forward. No one will want to lend them capital any more. The regulators will get nervous and the CDIC insurance premiums will go up, so it hurts you in the long run. It is best to be prudent.
Senator Kenny: You talked about smallness and how the rating system penalizes smallness. I would concede that largeness should not make rating companies feel particularly comfortable. On the other hand, I have to worry a bit about smallness. If you are too small, I cannot imagine a rating service not taking that into account as they are doing the analysis.
Mr. Pollack: Absolutely. If you are setting guidelines for banks to start up in Canada, there should be minimum limits set on the capital and a leverage test of some kind. Perhaps your capital should not be less than $25 million and maybe your leverage could not be more than 10 times, something like that. If you just say -- as they do in the U.S. -- that you can start up a bank with $4 million in capital, you see a lot of risk there in the initial start-up phase. We started one up in Washington. Of course there is lots of support. We are there, and they think that we are this giant bank from the north. We started there with $4 million in capital.
Senator Kenny: Did I misunderstand your criticism of the rating system?
Mr. Pollack: By the rating system I meant DBRS and CBRS. I was not criticizing them; that is their business.
Senator Kenny: If you were in their business, would you not be inclined to worry about smallness?
Mr. Pollack: Yes, probably.
Senator Kenny: You are not criticizing, you are just stating that that is a fact of life and you do not like it?
Mr. Pollack: That is a fact, and I cannot do anything about it. That is a hindrance to starting up a small bank. Other small banks that start up will feel that same hindrance.
Senator Angus: I share my colleagues' enthusiasm for the clarity of your presentation, even without a brief. As Senator Oliver did, I would like to focus back to your statement that you are in favour of the mergers. You recognize, of course, that we are not doing a specific study into that, but you see it as creating opportunities for smaller banks such as the National Bank, Laurentian Bank, and Canadian Western Bank, for credit institutions, and perhaps for other institutions such as life insurance companies. It raises the question and brings into focus some of the things that are being said in the debate by the big banks because you indicated that you think that is the spin of Mr. Barrett and others like him. Are you are agreeing with his spin?
I am wondering if you could turn it around and share with us your thoughts on what the negative consequences might be if mergers are not allowed.
Mr. Pollack: If mergers are not allowed, I think you lose control of the process. I will switch that over to a qualified yes. If you have a qualified yes; yes, you can merge, but you cannot close more than X branches a year, you can put in a number of controls. If you just say no, then you will see the branches close and you will see consolidation anyway. You cannot stop the clock. It is happening all over the world. We have talked about size in banking. We are a peanut. When you get into the big banks in the world, the Royal Bank is a peanut, and even the Bank of Montreal and the Royal Bank together are still small, but it allows you to get into bigger loan syndications and lead deals where the fees are larger. Usually the lead bank takes the lion's share of the fees, and the other banks are always down the food chain. They are finding that in the world of the big deals, and we find it on the street every day in Canada.
I do not think you will support the upcoming new financial institutions by trying to retain the status quo and the old system. They have the lion's share of the market now, and they will retain it. If they are allowed to merge, they might focus more on global business and wealth management and some of the other areas, and allow the traditional intermediary business to be absorbed by others.
Senator Angus: If you were a public policy maker in this environment, and if you could choose between allowing the major banks to grow vertically or horizontally, which would you choose?
Mr. Pollack: If I were only allowed one?
Senator Angus: We are going to allow the major banks to grow, but we may only allow them to grow vertically, in other words, by doing the mergers that are on the table. On the other hand, we may only allow them to grow horizontally, namely to cross the pillars to get into all these new areas, but not big by big in the same line.
Mr. Pollack: I would go the vertical route.
Senator Angus: Why?
Mr. Pollack: Growing vertically would make them more competitive on the international market. They could then specialize, or do what we do, and say that a Royal Bank-Bank of Montreal merger may specialize in certain segments of the banking industry in the world and ignore others. If you just allow them to grow horizontally, then they will be dabbling in everything and stepping on toes.
The Chairman: Does that answer not contradict your comment to Senator Oliver, that the way you make efficient use of branches is by broadening the range of services that can be sold in a branch? In other words, if your choice was that you can only broaden your range of services horizontally or vertically, to use Senator Angus's phrase, but not both, you would get two different outcomes. In one case you get what you told Senator Oliver, which is that the bricks and mortar can now be used for a lot more things, so not as many branches will be closed. On the other hand, when you do that you do not get the advantages you described to Senator Angus. Given that trade-off, suppose you could only pick one of those two. You cannot pick both; where do you come out?
Mr. Pollack: When I was talking about that, I was looking at ourselves and saying that we would probably open more branches if we could sell more products. I do not know whether the banks will be able to prevent them from closing bricks and mortar in Canada, no matter how many products they can sell.
Senator Oliver: They can do that now.
Mr. Pollack: They can sell them electronically so much more efficiently than they can by opening bricks and mortar. You will still see service in small communities and in regional parts of cities. You will see fewer branches, but you might see larger ones that do more things.
Senator Angus: I want to pursue the line a little further, specifically with regard to this aspect of the problem of the issue. A lot of people question whether it really matters if we are a peanut wearing our Maple Leaf. It is like saying, does it matter if you win 20 gold medals at the next Olympics? Does it matter in your mind if we have a bank or two or three banks that can really get into international financing centres like London and play with the big boys?
Mr. Pollack: Yes, I think so. Capital moves across borders and around the world at lightning speed. It will seek out the best return. If you have a constrained system in a country and a high tax environment, it will not attract capital. It will not grow and develop as fast as one that is the other way.
Senator Angus: In answering that question, you went right to the heart of my next one. You talked generally about capital, and about the different capital reserves, capital adequacy and the quality of capital as being the present-day criteria for the safety, soundness and integrity of the system. You just said that this capital can zip across the world in a nanosecond, so is it perhaps also outdated? I understand that at least one group is already studying looking at trade accounts in different ways.
Mr. Pollack: You will see some changes but I am not sure what they will be.
The Canadian system takes the minimum, which is an 8 per cent capital adequacy test, and tacks on 20 per cent. The minimum in Canada now is 10. I agree that is where everyone has to be, as long as we are all on the same level playing field and we are in Canada.
Senator Angus: If I am the supervisor, is it really the right measuring stick? Is that the right thing? Our present OSFI is really going at you guys on your inadequate capital and reserves.
Mr. Pollack: There is no substitute for capital as a safety measure. It is the final safety net. If you have lots of capital and it is good-quality capital, there is no substitute for it.
Senator Angus: You asked if we really need the trust companies. The one really big one left in the game, Canada Trust, came before us with a very interesting and enlightened presentation. What would you do with them, if we all agreed that the trust companies were dinosaurs?
Mr. Pollack: I am not sure that they are a dinosaur. They do extremely well. I think they are a case for having concentrated ownership, first of all. They have a very strong parent and access to capital. They have lots of capital and are flexible; they can do whatever they want. A trust company is just what they happen to be. If they wanted to be a bank, I am sure you would give them a banking licence. I think they are sitting back and seeing which way the wind will blow on this issue. You will see them emerge in some other form. There are recommendations in the MacKay report about reducing that concentrated ownership over time.
Senator Oliver: They are grandfathered.
Mr. Pollack: Yes.
Senator Angus: It seems to me that they would be in a category, and that this concentrated ownership with Imasco and BAT has to be addressed. But otherwise, are they not in the same league as you? They take deposits.
Mr. Pollack: I would die for their performance/earning -- or P/E -- multiple. It is one of the highest in the business. That might be an indication of where they are going. Their P/E multiple in the industry is far higher than any of the banks right now, which means that there could be some pricing in their stock that indicates that they may be a takeover target. They have a very clean balance sheet and a narrow focus. They focus primarily on consumer business and the consumer. Looking around the world, there is one bank in the U.K., Lloyds Bank, which has almost precisely the same focus as Canada Trust and they are very successful. I do not think trust licence has hindered them.
When you look around at concentrated ownership, a small trust company was a red flag in the past. Real estate developers would start a trust company so that they could raise cash, and then flip their real estate deals in there, pull the cash out, and leave the rest for the taxpayer. There was too much of that going on. That is where I was coming from. Does a trust company do anything much different than a bank? Certainly Canada Trust does not. So why not call us all the same thing, including some of the bigger credit unions such as VanCity and Surrey Metro out here?
Senator Tkachuk: We have heard conflicting testimony as to the competition that would be provided by the smaller institutions and foreign banks if the mergers are allowed to proceed. It is interesting to me that the smaller banking institutions and the credit unions are not arguing against the mergers, but that the Scotiabank President and CEO is. Why is that? Why would he be totally offside compared to what every financial institution witness has told us?
Mr. Pollack: I am not sure, other than maybe he rented the limo, got dressed up, and did not have a date. I really do not know.
Senator Angus: You were not talking about Mr. Godsoe there, were you?
Senator Tkachuk: I was thinking that might be the answer. I did not expect it to be that colourful.
Mr. Pollack: I am from Saskatchewan, too.
Senator Tkachuk: When you talked about bank start-ups and the difficulty with them, you mentioned the need for a level playing field, and said that the credit union had particular tax advantages. We have had some discussions about that, but they always get so murky. You have been very clear about this, and perhaps you might take us through the advantages that they have. How are they taxed differently than you, and why do the different provinces -- specifically in Western Canada -- treat them differently from the way they treat your bank?
Mr. Pollack: We had this discussion with the Minister of Finance in Saskatchewan, so we will use Saskatchewan as an example.
You and I were both born in Saskatchewan. In Saskatchewan, the credit unions in the commercial lending business currently have about $250 million outstanding after one or two years in the business. They have also started up a leasing company under the credit unions. They do not have the same capital adequacy test that the banks do. The province has exempted them from capital tax, which gives them a huge advantage.
Senator Tkachuk: Have other provinces also exempted them from capital tax?
Mr. Pollack: Yes, Alberta has, and it insures the deposits. About $500 million worth of depositors' money go into those credit unions, and a small little tick will be taken off for their deposit insurance fund, which is probably minuscule. I do not know how big it is, but you could probably find out. They will then lend $500 million on commercial loans, and the banks will let them have them. We were paid out on one in Regina yesterday that we were classifying as non-performing, and they lent the guy more money and took him on.
I told the minister that when that collapses, the taxpayer will have to pay. The insurance fund is not high enough, and ultimately the province insures those deposits. The province is taking on a huge amount of risk.
The second issue is that the province is cooking the golden goose. Those $500 million worth of loans were in the banking system. They are now being transferred to the credit union system. They were capital taxed in the banking system; they are tax exempt in the credit union system. They just lost $1.6 million a year in taxes. So they are subsidizing the credit unions.
Senator Tkachuk: What did the Minister of Finance say when you told him that?
Mr. Pollack: That they are taking a look at it. I do not think they thought of it that way. They are subsidizing a business to start up, and eliminating the tax.
Senator Tkachuk: I think you said unlimited insurance when you talked about that. Do you really mean unlimited insurance? It is not $60,000?
Mr. Pollack: We will flip around from province to province. In Alberta, the credit unions have 100 per cent deposit insurance. You can put your $12-million term deposit in the Capital City Credit Union in Edmonton, and it is fully guaranteed by the province. That credit union can then lend that money back out on a capital-tax free basis. They pay no capital tax.
Now we will go to B.C. They have special income tax rates in B.C. There is a formula that calculates the amount of deposits that they have, and reduces their income tax in this province. Every province has different rules in the credit union system. There is not a consistent regulatory system across Canada.
Senator Tkachuk: What about the Treasury Branches in Alberta? Do they have that kind of unlimited insurance as well?
Mr. Pollack: The Treasury Branch operates as a bank in pretty well every respect, but it is not one. It operates outside. It does not have a banking licence; it does not have a trust licence; it does not have any licence.
Senator Tkachuk: It is a Crown corporation?
Mr. Pollack: It is a Crown corporation. It has no capital. It accepts deposits in unlimited amounts fully insured by the province. It has never made money and I have to compete with them. They pay no taxes and they are now the largest bank in Alberta. They have $9.3 billion in assets. If you talked to the provincial leaders in Alberta, they would suggest that maybe it is time to withdraw from the banking business because it is a ticking time bomb. I am sure that the S & P ratings on the province are probably affected by Treasury Branch activities.
What is a province doing in the banking business? I have no idea. How are you going to compete in Alberta when you have a province competing with you? If you are in the gasoline distribution business, and the province opens up gas stations down the street with no pressure to produce profits, and can supply its products cheaper, how can you stay in business? They are coming to the conclusion that it is time to get out of that business. It started back in the 1930s.
Senator Tkachuk: I have one last question on the competition part. You stated that you did not fear U.S. banks. You did not think that they were going to be significant players in Canada, as far as competing with you is concerned. We have been digging around figuring out whether or not there is a way for that to happen. Is branch banking a possibility that would give competition, if there were a way to allow a branch to open up without having to fulfill all the requirements of a bank in Canada?
Mr. Pollack: I think what you would probably see is more an office than a branch. They might open an office, and do some lending or collect deposits electronically.
Senator Tkachuk: They would harvest like you do in Ontario?
Mr. Pollack: Harvest, absolutely.
You put your bricks and mortar where the lowest tax environment is. ING is in Ontario where it pays a .6 of 1 per cent capital tax rate. They are taking deposits and loans out of Saskatchewan, but they are not paying any taxes there, and they do not have any employees there.
You have to find a way to monitor that process.
Senator Tkachuk: Are they making loans in Saskatchewan?
Mr. Pollack: They might be making some mortgages.
Senator Kroft: Over the last weeks, we have become quite familiar with the activities of both the Canadian Development Bank, and FBDB or whatever people still think of it as.
Mr. Pollack: I think they call themselves BDC.
Senator Kroft: The BDC, and the Farm Credit Corporation, which is aggressive and expansive in its approach. Given the profile of your target market, you must run into them reasonably often. I was just wondering how you feel about that competition and what the nature of it is. Is it mutually reinforcing their partnership, or is it head-on, and do you have a view of the role that they play?
Mr. Pollack: If we had a really good competitive banking system in Canada, would the federal government have to be in the banking business? That would be a question I would leave with you. I do not believe that federal governments are involved in that in many countries.
We do not run into them much in competition, and I do not know why that is. Once, however, we competed with them for some office space and they told us that they would outbid us, no matter what we bid for that office space. So we went away and found some more office space. Why are they at street level when they are not dealing with the retail client? They are primarily commercial lenders.
On the farm side, it is an interesting market. It can be a very good market. It probably is not served by enough institutions. You have to be a specialist to wade through all the protectionist legislation from the past, which says that you cannot repossess farm tractors or half-ton trucks from farmers. That legislation prevents banks and other institutions from lending to these people. We would love to take a more active role in the agricultural business. We would like to find a way to do it, provided that, if people stopped paying, we could realize on their assets. This cannot currently be done on the agricultural side. What it has done is foster the other institutions. Alberta Treasury Branch is very big in farm lending, because if people don't pay them, they don't pay them. Fine -- pay us in the next millennium.
Senator Kroft: Well, you have been very clear on that. Since you are so clear and have terrific credibility I would like to put a proposition to you. There is a strong feeling in spite of all the cases that you and others make. By all the polling we have seen, a substantial number of Canadians are still very sceptical about the idea of merging big with big.
Many people -- and I am sure this is also true of many of us, in varying degrees -- feel that this would represent an inappropriate concentration of power, given the size of the market and the relative size of those institutions. They feel discomfort with this power of concentration in the hands of two CEOs or two boards of directors.
If you were given two minutes of national television time to put Canadians at rest on this subject, what would you be inclined to say to them?
Mr. Pollack: I might say that the "yes, but" approval might work. If you say that your market share in any one product line cannot be over X amount, that would force them into that horizontal expansion as opposed to the vertical expansion. You might say okay, that we are at 30 per cent of the credit card business; we cannot grow any more there, but if we get into the leasing business now, we will grow to 20 per cent, which is our cap there. You can keep an institution from being a monopoly in any one segment of the banking industry by capping the product lines.
Rather than have 100 per cent of the mortgage business in Canada in one bank, you can say that you are capped at 25 per cent or something like that. Then they will say that they have reached 25 per cent, and that they will now get into the leasing business. They will be spread out more horizontally. That vertical growth will be capped. That is one thought that comes to mind.
Over the years, the banks have generally not been good at selling what they do. At every cocktail party a bank story is told where someone got thrown out. Credit unions advertise that banks are bad. On, one hand you have VanCity applying to become a member of the Canada Bankers Association, while at the same time it advertises on television that banks are dinosaurs. That contradicts what they are doing.
We should be very careful in this country not to beat up our banks. If somebody is beating up a bank, all we have to do is make him or her watch a recent clip from Russia, where people could not get into the banks to get their money. Let us not beat up our banks. Let us treat them with respect, because we need a good banking system.
The Chairman: Thank you, Mr. Pollack. As you can tell from the questions of my colleagues, this had been a terrific session. Thank you very much for coming. We appreciate it. The only risk you run in doing so well is that I suspect we will be calling on you to appear before us again when we deal with other financial institution issues.
The committee continued in camera.