THE STANDING SENATE COMMITTEE ON BANKING, COMMERCE AND THE ECONOMY
EVIDENCE
OTTAWA, Wednesday, December 6, 2023
The Standing Senate Committee on Banking, Commerce and the Economy met with videoconference this day at 5 p.m. [ET] to examine Bill S-243, An Act to enact the Climate-Aligned Finance Act and to make related amendments to other Acts.
Senator Pamela Wallin (Chair) in the chair.
[English]
The Chair: Hello to everyone who is joining us in the room and online. Welcome to this meeting of the Standing Senate Committee on Banking, Commerce and the Economy.
My name is Pamela Wallin, and I serve as the chair of this committee. I would like to introduce the other members of the committee: deputy chair Senator Loffreda, Senator Gignac, Senator Marshall, Senator Martin, Senator Massicotte, Senator Petten, Senator Ringuette and Senator Yussuff. Thank you all for being here.
Today we continue our examination of Bill S-243, An Act to enact the Climate-Aligned Finance Act and to make related amendments to other Acts.
We have the pleasure of welcoming back Peter Routledge, the Superintendent of Financial Institutions, and he is accompanied virtually today by Stéphane Tardif, the Managing Director, Climate Risk Hub. Welcome to you both. Thank you for joining us this evening and for coming back so soon. It seems like you were just here. We will go to you, Mr. Routledge, and have your opening remarks. The floor is yours.
[Translation]
Peter Routledge, Superintendent, Office of the Superintendent of Financial Institutions: Hello, Madam Chair, ladies and gentlemen of the committee.
We are gathered today on the traditional unceded territory of the Algonquin Anishinaabe people who live here and who have been looking after it for millennia. With me this afternoon is my colleague Stéphane Tardif, Managing Director, Climate Risk Hub, Office of the Superintendent of Financial Institutions.
[English]
The Intergovernmental Panel on Climate Change, or IPCC, reported earlier this year with high confidence that it expects average warming to reach 1.5 degrees Celsius in the near term, with every increment intensifying multiple and concurrent physical hazards. To slow and stop global warming, economies will have to transition away from greenhouse gas-emitting energy sources, a task that itself presents significant transition risks to economies, including and especially Canada’s. Thus, responding to the threats posed by climate change remains one of the great challenges for this generation of Canadian policy makers.
Before I explain what we have achieved at the Office of the Superintendent of Financial Institutions, or OSFI, on climate risk management since I began my service as superintendent, I would like to discuss OSFI’s mandate and its relation to the risks caused by climate change.
OSFI has an explicit mandate to contribute to public confidence in the Canadian financial system. This includes ensuring that the financial institutions we regulate are managing the risks that could impact their safety and soundness. Among these are the physical and transition risks associated with climate change. While OSFI does not have an explicit mandate to advance climate change objectives, our current mandate provides us with ample scope to take action to ensure the financial institutions we regulate are managing how climate change impacts their safety and soundness. Climate change impacts financial institutions’ safety and soundness because it will alter the cash flows generated by some financial assets and businesses. Stronger and more frequent natural disasters are changing the economic fundamentals in some insurance segments. As the world shifts away from greenhouse gas-emitting energy sources, the Canadian financial system will have to finance businesses’ transition to a low carbon economy. Thus OSFI’s existing mandate compels my organization to react with urgency to the risks posed by climate change. If we fail to do so, then we fail to fulfill our existing mandate.
Over the last year, OSFI has made significant progress in helping regulated financial institutions advance their competence in managing the physical and transition risks associated with climate change. We have made our expectations clear through Guideline B-15 on Climate Risk Management, created a platform for dialogue through the Climate Risk Forum and initiated a Climate Risk Returns and Standardized Climate Scenario Exercise. We have pursued regulation of the federal financial system for better climate risk management via innovation within our existing regulatory practices and tool set.
We believe now is the time to deepen our application of sound risk management practices to the risks of climate change, and this entails sound, bottom-up risk analysis that will, in turn, inform future regulatory decisions around risk weighting and, therefore, capital allocation, scenario testing and disclosures.
Thank you. Stéphane and I are happy to answer your questions.
The Chair: Thank you very much.
I know that you are a person that really likes the data and wants to be able to track what the financial institutions are doing. Just in terms of where you think the banks are at, I’m looking at numbers from the 2022 Environmental, Social and Governance, or ESG, performance reports. The banks — I won’t put the numbers beside each one — but $84 billion, $96 billion and $107 billion, and their projections are to be in the range of $500 billion by 2025. These are significant increases in terms of funding the transition. Are you pleased with those numbers?
Mr. Routledge: As superintendent, it’s not my job to be pleased with loan portfolio composition; it’s my job to make sure that they’re diligent about the way they’re making those loans and capitalizing them appropriately. That said, the hallmark of sound banking is a diversified loan portfolio, and to the extent those numbers you state reflect loan portfolios diversifying into a variety of economic activities, that’s good news. I’d rather have a bank with a thousand small trees than three big ones.
The Chair: Thank you.
Senator Loffreda: Thank you, Mr. Routledge, for being here.
Could you kindly share your nuanced perspective on this proposed legislation, Bill S-243? Does it hold the potential to supersede your jurisdiction, and do you harbour confidence in its pragmatic implementation, should it garner approval?
Mr. Routledge: Let me start by saying it’s a bill before Parliament, and if Parliament passes the bill with instructions to the superintendent, I’m duty-bound to implement it faithfully. Whatever Parliament tells us to do, we’ll do so faithfully. That’s the faithful execution part of my job.
The fearless advice part of my job is that we at OSFI, in conjunction with our peers internationally, have built over the last several decades, in response to several financial crises, an architecture of risk measurement and capital allocation against those risks that is broad, comprehensive and detailed. I think good advice for me to give to parliamentarians is for them to let the bank geeks, who think about capital allocation and risk weighting, do their work and allocate capital on the basis of risk considered across a variety of sectors. Specific directions on the weighting of specific assets, while we could make it workable — and we would make it workable if Parliament so instructed us — there might be a better way to get at managing the risks that those preferred risk weightings are meant to address.
Senator Loffreda: Just to get back to it, like you said, the current mandate of OSFI is to have public confidence in the Canadian financial system. You did say to let the bank geeks determine the cost of capital, et cetera, and I agree with you on that aspect. Don’t you feel it overrides, a little bit, your authority in putting such a bill forward and not letting you determine how to manage these risks? Maybe just add a word as to how you feel the Canadian banks are currently managing these risks, but I don’t want that question to take away from my first question.
Mr. Routledge: Yes. I think, to an extent, exogenous idiosyncratic directions on how to risk weight specific assets that aren’t part of a broader and comprehensive risk framework, I think that will lead to more costs and more unintended consequences. The extent to whether it challenges the superintendent’s authority, I would honestly say the superintendent’s authority flows from instructions given to the superintendent from statute, and so I don’t see the changing of statute generally as something that impinges upon the superintendent’s authority.
Senator Loffreda: Thank you.
The Chair: Every time you come here, we walk around the edges of this. It’s not your job to tell the banks what to invest in or in what proportion; you’re there to oversee their viability. We’ll just keep that all in mind.
[Translation]
Senator Gignac: Welcome, Mr. Routledge. It is always a pleasure to see you. This bill, sponsored by our colleague Senator Rosa Galvez, who is unfortunately not with us today since she is attending COP28, is full of good intentions. There is no doubt about that. I think we all agree and commend her on her fine work. There is a link between finance and climate change.
I would like to hear your general reaction. Before we get into the specifics, do you think it is the right approach? Are our financial institutions concerned about greater transparency? Should the approach be legislative or regulatory? To achieve the same objective then, should your work involve regulations instead of legislation?
[English]
Mr. Routledge: My fearless advice is that capital rules, capital guidelines and capital allocation should flow from a technocratic, non-legislative framework that is comprehensive across all risks in a financial system. I think it’s entirely appropriate for parliamentarians to challenge OSFI and the superintendent on whether we’re doing that responsibly, but my experience with risk is that managing it, particularly in the world of financial institutions, is to be done with great care, and with great care comes great empiricism that is agnostic to asset and not agnostic to relative risk.
To carry the answer further, there are legitimate concerns that our credit modelling does not capture the risks of climate change fully because climate change has not fully arrived. It has arrived in a very significant measure, I admit, but in terms of having its effects in the historic data on credit and market risk, et cetera, it hasn’t fully arrived. That’s why we’re doing the hard work on measuring Scope 1, 2 and 3 emissions so that we can begin to adjust how we think about risk for a forward-looking analysis on climate change. That, to me, is the bank geek’s way to deal with climate risk.
[Translation]
Senator Gignac: I have a second question.
Looking at the bill, it seems to be very detailed in proposing a risk weight of 1,250% for any loan or bond related to fossil fuels.
If I understand you correctly, it is not the role of legislators or parliamentarians to go into that much detail. Nonetheless, would approving such a detailed bill have unexpected consequences? What would the impact be on financing, access to capital for the Canadian economy?
I am worried because it might mean that Alberta or a sector of the economy would have difficulty securing financing from financial institutions. Correct me if I am wrong. Can you clarify this?
[English]
Mr. Routledge: Productive, profitable risks will find financing. If, by virtue of regulation, one sector, and in this case banks, pulls back from profitable risk taking, there will be other investors to fill the breach, so the notion that shifting capital risk weightings exogenously without considering the broad array of risks will materially alter investment in a protected asset class would be a difficult argument to sustain, in my view.
Senator Gignac: So I understand, a profitable company will have no problem raising money from whatever it is, Wall Street rather than Bay Street, but for Canadian banks, they will lose significant market share, let us say, in that sector?
Mr. Routledge: In that sector. Although, to clarify, oil and gas assets are really only 5% of total assets, so I don’t want to overstate the impact, but yes, in that sector, that could be a very plausible outcome.
The Chair: Just to be clear, there is not a distinction between investing in the oil and gas sector whether it’s for transition or for expansion?
Mr. Routledge: Yes.
The Chair: Okay. Thank you.
Mr. Routledge: Its capital flows to return.
Senator Marshall: Thank you for being here again.
I’m trying to think of how to word my question so I can get an answer. For the institutions that you regulate, do you think they’re well positioned to implement this bill if this bill becomes law?
Mr. Routledge: I’m going to answer, and then I’m also going to have my colleague Stéphane Tardif answer because he’s talked to them in great detail about this question.
The answer is their readiness varies. It typically varies by size and sophistication. We are going to go faster for larger institutions and slower with smaller. All our larger institutions not only face encouragement from their regulator on getting ready for climate change, but from their investors — the investors who hold their equity and their liabilities — who want to see concerted movement toward sound climate risk management because it is such a significant issue.
Stéphane, do you want to provide some colour around your discussion with our regulated constituents?
Stéphane Tardif, Managing Director, Climate Risk Hub, Office of the Superintendent of Financial Institutions: Thank you, superintendent. Thank you, senator, for the question.
I’ll answer this question in this way, which is that the objectives of the bill and the differences between Guideline B-15, which is our prudential guidelines, are quite similar and somewhat complementary. I’ll answer your question in this way. For example, in OSFI’s Guideline B-15 — and what we have already communicated to institutions and what they’re getting ready for — we already have expectations for mandatory climate transition plans, for both transition and physical risks. That expectation for transition plans also is in the bill, but we have already communicated that. We’ve communicated the expectations to our banks and our insurance companies to start pricing the risk and collecting the necessary data to be able to do this work. We also have expectations, similar to the bill, that institutions should do climate scenario analysis exercises at modelling 1.5-degree temperature limits by the end of the century, in accordance with the Paris Agreement. We also have that in our guideline. We have annual mandatory disclosure requirements similar to what is in the bill, and we also have expectations for senior management and the boards, which is also in the bill.
Where we differ and the one thing that we differ on is that our expectations are aligned with prudential risk management — it’s about managing the risks — whereas the bill, Bill S-243, aligns all these expectations to climate-specific targets or emission-reduction targets that are issued more broadly from the government. That’s sort of the only difference between the bill and OSFI’s prudential guidelines.
Senator Marshall: It’s close, but not quite there.
Mr. Tardif: Exactly.
Senator Marshall: Thank you.
The Chair: It’s doing the same thing with the one exception.
Senator Marshall: Right. That’s good. Thank you.
Senator Massicotte: Thank you for being with us again.
I find we’re using a lot of words, and I want to be very clear, because otherwise we’ll talk about this in six months and I will wonder what you meant. I know you’re being very polite and sensitive to legislation. I know you do what you’ve got to do. The message I’m getting from you is there is nothing in this proposed bill — there is no problem to be corrected. You’re doing what you’ve got to do, and, in your mind, it is adequate and, in your sense, even better than what this bill proposes. Am I correct in saying that?
Mr. Routledge: What’s better than what the bill proposes?
Senator Massicotte: The current prudential practice is superior from a management point of view than the implementation of certain legislation and it’s not necessary, it’s not adding very much, and therefore, if that’s the case, why have it?
Mr. Routledge: Let me answer that in a few ways.
The first way is we hold very firm belief that OSFI’s mandate and the objects that flow from our mandate give us everything we need to regulate the financial institutions so they manage climate risk responsibly. I do not seek anything further from legislation to do that. We do not need anything further. What Parliament has given us so far to date, the OSFI Act and all the financial statutes, that is fit for the cause, and we are not seeking any other legislative powers, authorities or what have you to fulfill that part of our mandate. To our way of thinking, climate risk in our industry is a financial risk, and we’ve been regulating for financial risks for 38 years.
What I hope came through — and if it didn’t, I’ll restate so it does — is that top-down directions on how capital should be allocated in a financial institution, rendered outside this broad, comprehensive framework for risk management that we have in place, will produce unintended consequences and, in all likelihood, those won’t be favourable consequences. Risk taking at a bank is a very complex exercise, particularly at larger banks. They have thousands and thousands of individual decisions to make, and they have to make it throughout their organization. A single, comprehensive, coordinated capital allocation framework, which is what our capital rule is, is the way to do that. Adding something exogenously is unlikely to produce the outcome that folks seek. Was I clear?
Senator Massicotte: I think it’s quite clear, and I hope it’s clear to everybody.
Having said that, apparently some countries or some central banks see value from such legislation or see a benefit, because they’ve enacted it. Why would their case be so significantly different than ours?
Mr. Routledge: Of our G7/G20 peers, that’s pretty rare, and where it exists, I suspect it’s fairly soft. In other words, I suspect the supervisor will have some discretion in applying that.
What I will say is some countries started earlier than OSFI, and they’re further ahead, and it appears like they’re doing more than what OSFI is doing or something that OSFI isn’t doing. I would say their regulatory approach and their systems are a year or two more mature than we are. As you see OSFI move up our own learning curve and the industry move up the learning curve, you’ll find those differences aren’t quite as stark.
[Translation]
Senator Bellemare: I read your bill regarding guideline B-15. I have two questions, including one about B-15.
Does guideline B-15 encourage or could it encourage financial institutions to respond to your guidelines by reducing assurances, that is, reducing risks by saying, “we no longer insure that”?
My second question is as follows. In clause 9 of Bill S-243, the bill states the following:
6 (1) The Superintendent has the powers, duties and functions assigned to them by the Acts referred to in the schedule to this part — and the Climate-Aligned Finance Act —[...]
You have partly answered my question, but will the Climate-Aligned Finance Act have an impact on insured or insurable risks? How exactly would that work?
First, would guideline B-15 reduce the risk by reducing the insurable portion? Secondly, does adding the Climate-Aligned Finance Act to your mandate have the same effect? What is the effect, specifically?
Mr. Routledge: I will let my colleague Mr. Tardif take the first part of the question.
Mr. Tardif: Thank you for your question, senator.
The short answer is that guideline B-15 is neutral with respect to the colour of risks. In other words, whether risks are red, yellow or green, or whether they are assets, the guideline is neutral.
The guideline is sensitive to risk level, however. In other words, institutions are expected to manage risks, regardless of whether the risk is in a sector that may have a higher climate risk. Guideline B-15 is neutral.
That is a decision that insurers and banks will have to make according to their risk assessment, and that they will face in the future with regard to climate change.
Senator Bellemare: I think I understand. What about the second part of the question?
[English]
Mr. Routledge: You’re talking about clause 9, Part 3, Capital Adequacy?
Senator Bellemare: Page 25 of Bill C-243.
Mr. Routledge: I’m at a different section.
[Translation]
Mr. Tardif, can you answer the question?
Mr. Tardif: Senator, could you repeat the question?
Senator Bellemare: My question is as follows. It pertains to clause 9 of Bill S-243, on page 25: the general role of the superintendent. In the bill, this clause amends subclause 6 (1), which pertains to the general role of the superintendent. It adds the following:
[English]
It adds to the “Duties, powers and functions of the Superintendent.”
The Superintendent has the powers, duties and functions assigned to them by the Acts referred to in the schedule to this Part — …
The bill adds:
… and the Climate-Aligned Finance Act — and shall examine into and report to the Minister from time to time on all matters connected with the administration of the provisions of those Acts except those that are consumer provisions as defined in section 2 of the Financial Consumer Agency of Canada Act.
[Translation]
In adding this part to your mandate, how will the Climate-Aligned Finance Act interact with or specifically interfere with your guideline B-15 and the way you will operate?
Mr. Tardif: Superintendent, I will begin and you can answer the question about our mandate.
Senator, under guideline B-15, our objective and work relating to climate are strictly prudential. Right now, it is really a question of ensuring that financial institutions understand, assess, manage and disclose their climate-related risks.
We think that is the best approach to climate risks because they can have various impacts on the many financial institutions subject to federal regulations.
[English]
Superintendent, would you like to talk about the mandate?
Mr. Routledge: Yes. This paragraph would oblige the superintendent — it doesn’t have a time here, but I assume it will be annually — to report to the minister on financial institutions’ compliance with the Climate-Aligned Finance Act. In effect, I would be telling the minister, “Here’s what’s in the Climate-Aligned Finance Act, and here is what the institutions have done. Here are the institutions that are compliant, and here are the institutions that are not compliant.” By virtue of that, OSFI would be obliged to ensure the institutions were taking all available actions to come into compliance with the Climate-Aligned Finance Act.
The Chair: Does that change your mandate?
Mr. Routledge: It wouldn’t change our mandate, but it would change our deliverables to the minister, and we would have to resource up for it.
Senator Yussuff: Thank you for being here.
I have a number of questions. It’s a chicken and egg question. Banks are always in the business of managing risk. That’s what they do. They make loans, and they have some assumptions about the repayment and whether or not the client could meet that obligation. We are still a resource economy, to a large extent. We haven’t got out of the business yet. The oil and gas sector are a critical part. This bill will have some direct impact, given where the risks are in the country. It’s in the West. For the banks, essentially, 5% of their assets are in this particular area. This will have a major impact on their ability to continue to lend in those particular sectors. That is going to be weighed much higher in regard to its risks. Am I right in that assumption?
Mr. Routledge: Different capital allocation rules impact risk taking at banks. If you, generally speaking, increase a capital allocation to a particular asset, banks will either have to charge more for that loan to get the return they want or use the capital elsewhere and make different loans.
Senator Yussuff: In regard to the disclosure requirements under B-15, how prescriptive are they in how that message comes across in the banks’ reporting to their shareholders?
Mr. Routledge: Stéphane Tardif, disclosure on B-15.
Mr. Tardif: Thank you, superintendent.
Mr. Routledge: How significant are they?
Mr. Tardif: Senator, the expectations in OSFI’s disclosure requirements are aligned with international and domestically accepted standards, such as the Task Force on Climate-related Financial Disclosures. We’re currently updating those requirements to align with the recently released international sustainability standards from the IFRS. Financial institutions, including banks and insurance companies, are, in many instances, already aligning their public disclosures with these frameworks. Many of them have voluntarily been disclosing along these frameworks.
What guideline B-15 tried to do is simply provide a level of standardization across all of our financial institutions to meet that minimum requirement, that is, not just certain institutions that were doing it voluntarily, but now it’s mandatory. We now have disclosure requirements around strategy setting, transition plans, the role of the boards and Scope 1, Scope 2 and Scope 3. Those are actual quantifiable metrics that institutions will have to start calculating and which many have already started doing.
The short answer to your question is they’re not new requirements. These are requirements that have been well promulgated and well understood within the financial services industry, domestically and globally. I hope that answers your question.
Senator Yussuff: Somewhat. I mean, I didn’t get how prescriptive they have to be.
Mr. Tardif: Sorry. There are prescriptions in Guideline B-15, specifically with regard to the quantifiable metrics. Scope 1, Scope 2 and Scope 3 are prescriptive, but they’re standards across the globe.
Senator Yussuff: In the federal jurisdiction, we’ve got a lot of pensions, for which you’re the regulator. We don’t have insurance companies that are regulated federally because they’re provincial, to a large extent. It depends on where they’re registered. Maybe you could clarify it for me. What degree of oversight do you have over insurance companies? How much is that? Similarly, what oversight do you have on federal pension plans within your jurisdiction in regard to climate risk?
Mr. Routledge: You’re right that there are many provincial insurers. We oversee life insurers and P&C insurers, property and casualty. That’s probably over 90% of the market. There are a few exceptions, but we’re the norm. All insurers are subject to B-15.
We regulate about 20% of private sector pension plans in Canada. It’s about 1,200. Most of them are quite small. B-15 does not apply to them. Through our supervision, we will encourage them to measure this risk, as it could affect the value of their assets, just like bank assets, but to be clear, B-15 does not apply to pension plans.
Senator Yussuff: As you know, the country has set two targets. We’ve got 2030 targets in terms of climate achievements, and there’s 2050 targets. Does that in any way influence you in the context of your mandate and how you look at your requirement that banks and insurance companies and others have to obligate themselves in that reality? I realize it’s a tall order because this is a challenge that we haven’t yet achieved, but this is an objective that we would like to achieve as a country.
Mr. Routledge: The way public target setting would get into our supervision of the institutions would be that those institutions, particularly systematically important, our larger, internationally active institutions, make statements. They belong to the GFANZ, or Glasgow Financial Alliance for Net Zero. They’ve committed publicly to net zero 2050, so if they fail to follow through on those commitments, that is a reputation risk. They rely in part on their reputations to help them raise debt and equity financing as part of their normal business operations. To the extent they were to make commitments and then not fulfill them, we would consider that to be a serious reputation risk. We would hopefully — and if I have anything to say about it, urgently and early — oblige the board of directors of a particular institution to address deteriorating reputation risk, taking a bilateral approach to that.
Senator Ringuette: Most of my questions have been answered, except maybe a bit further information. From your analysis of the institutions that you’re supervising and making sure that they report their risk, in the last three to five years, have you seen a shift from them investing in the climate change emitters’ industry and so on to clean technology developers, installation and so on? Have you seen a shift?
Mr. Routledge: A shift in loan portfolios?
Senator Ringuette: Yes.
Mr. Routledge: To be honest, I would have to look into it to confirm this — I’m happy to come back and give you some more data — but my instinct is not materially. Financial institutions, again, are risk takers. A marginal dollar of risk goes to its most profitable uses. Some institutions have made a concerted effort to build up their participation in new energy development, and I think that’s intelligent risk taking because I think the economy will move in that way. But if you’re asking me big picture whether loan portfolios in composition have shifted in a way that was material, no. Loan portfolios don’t shift materially in two or three years; they shift materially over a decade. If you were to ask me that question in a decade, I think my answer would be different.
Senator Ringuette: I don’t know if I’ll be here in a decade. From my perspective, that is sad, because it’s a collective responsibility to move to clean technology, and Canadian financial institutions are part of our collective. What kind of message can we send?
Mr. Routledge: I think the institutions that we regulate would agree with you on the collective responsibility to finance a transition toward non-greenhouse gas emitting energy sources. I think they would point to banking teams that are hard at work on just that. If, by my earlier comments, you took that they’re not taking this seriously, then I think I’ve misspoken. Having said that, the honest response to your question on whether loan portfolios and composition have materially shifted is not yet. That’s going to take some time. It’s probably not availability of capital or willingness of banks to loan; it’s availability of opportunities to loan profitably and successfully.
The Chair: I think it goes to the numbers we started out with at the beginning, which is if it’s an ESG performance report, they are targeting that. It’s just hard to have the breakdown in terms of what’s going to traditional versus —
Mr. Routledge: To set those numbers in context, the Canadian banking system is $8 trillion in assets. I look at materiality from that perspective.
Senator Ringuette: What would be the benchmark of materiality?
Mr. Routledge: I would have to think about that.
Senator Coyle: I’m here at the committee representing Senator Miville-Dechêne. I’m sorry I missed the beginning of your remarks. You must have started a couple of minutes early because I was right on the dot. I’m sorry the sponsor of the bill is not here because I would like to hear what her questions for you would be.
I have several questions, and I’ll try to respect the time. First, when Senator Galvez was doing all of the background work to develop this bill — she did a lot of work, which is clear — did she meet with you and/or your colleagues? If so, what kind of guidance did you provide at that time?
Mr. Routledge: I’m not sure where in the development of the bill it occurred, but Stéphane met with her.
Senator Coyle: Maybe Stéphane could answer.
Mr. Tardif: Thank you for the question, senator.
Yes, we met with Senator Galvez and her team approximately 14 or 15 months ago. We had an hour conversation with her about the proposals and the work that we were doing at the office in terms of addressing some of the concerns, but from our mandate and from our perspective. We did meet with her is the short answer.
Senator Coyle: Did you offer any guidance?
Mr. Tardif: Guidance is a big word. We don’t interject ourselves into the legislative process, so it was really about clarifying OSFI’s role and the work that we were doing. We were responding to her questions in that sense.
It’s coming back to me now that the one thing we did spend quite a bit of time on with her was talking about capital requirements and trying to explain the nuances in capital rules, that there are different capital rules for banks, for insurance companies, for life and P&C insurance, because she had proposed this standard 1250% risk way charge, and we were trying to explain to her the nuances of that and the complications of that. That was a detailed question that we had with her.
Senator Coyle: Thank you for the help that you provided to her on that.
I want to pick up on some of the questions that were being posed by Senator Ringuette and Senator Yussuff. You described the slow, kind of glacial moves, and we know the glaciers are melting and we need more than glacial moves. This bill is clearly intended to accelerate. You’ve told us that things are moving and you are meeting international standards. What would it take, if not a bill like this, to accelerate that shift that you yourself have described as not going to happen in the next couple of years, that’s for sure, or maybe a decade? In your opinion, with your wonderful expertise, what would that take?
Mr. Routledge: Over time, as businesses take risks from non-greenhouse gas emitting energy sources, as businesses take more risks, financial institutions will be there to finance that willingly. What would induce businesses to take more risks in that sector? There’s a whole array of policy ideas that you could put in place to advantage them, and we use those policy ideas in other places. I’m not here to recommend policy to the government, so I’m probably not going to advance that, but one area that we’re really excited about that will help us do our job better in terms of thinking about the benefits and the relative risks of green assets would be a national taxonomy, which I believe the Sustainable Financial Action Council is working hard on.
Taxonomy is a big word but really means an agreement about where relative utility lies in terms of different types of investments. By utility, I mean utility toward shifting the economy toward not using greenhouse gas emitting energy sources. If we had that standard, I think that would be a powerful inflection point, a “TSN Turning Point,”, if you will, where lenders and borrowers would have a shared agreement over where productive assets might lie in the future, and then you might see an inflection point in terms of allocation of capital to that sector of the economy. I don’t want to oversell it, and it’s not everything, but in very complex markets, standards are often the foundation that unleashes growth.
Senator Coyle: Thank you.
Senator Petten: I’m thinking about the bill, and I’m wondering if the Canadian banks or the pension plans and financial institutions have emission targets. If so, are they reconciled with financial targets?
Mr. Tardif: Thank you, senator.
Some of the larger banks and insurance companies have voluntarily joined organizations like the Glasgow Financial Alliance for Net Zero, or the Net-Zero Insurance Alliance. These are UN-convened, global frameworks where they are voluntarily committing to reducing the emission profiles of their portfolios. The short answer to your question is yes, and these are voluntary.
Have they made their way into the financial statements yet? No. They are reported in their ESG reports and their net-zero climate reports, but these reports are outside of the financial statements. They are not subject to assurance or independent assurance at this point simply because the accounting profession hasn’t yet adopted sustainability reporting standards. That industry is slowly catching up.
The short answer is that large institutions have made commitments to reducing their emissions and their financed emissions, and that will be coming through in things like Scope 3 emission reporting, but they are not part of the audited financial statements at this stage. Does that help answer the question?
Senator Petten: Yes, thank you.
Senator Martin: I just have one question, and it’s based on a response you gave to Senator Massicotte. I heard you say “unintended consequences” in a previous answer, and it’s sort of reverberating in my mind. I understand that you have a specific mandate. As an office, OSFI is managing that as superintendent. I’m learning a lot about what your mandate is just based on today’s meeting. I’m new to the committee. In terms of this bill, I thought I heard you say that the bill will produce unintended consequences for the sector. I was really curious about you elaborating on that further.
Mr. Routledge: I hope I said an exogenous —
Senator Martin: Yes, external.
Mr. Routledge: External capital rule for a specific asset class that was not part of this 800-page capital guideline that the banks use to measure the capital required.
If you single out this asset class and heavy up your capital requirements, that might produce outcomes that the folks who are proposing that change in capital weighting might not seek. The example I used was if a particular asset class had a very heavy risk weighting and therefore required a very heavy amount of capital to back — by which I mean that OSFI would de facto require that — then perhaps those institutions affected by that capital rule might make different decisions. But there would be capital providers from outside the Canadian banking sector that would step in, and we won’t be able to regulate and monitor it. In all likelihood, OSFI would not be able to regulate and monitor that because the capital would not come from regulated entities. That might be viewed as unfavourable and certainly unintended.
Senator Martin: Are there any other examples that you can share?
Mr. Routledge: Are there any other examples?
Senator Martin: Of unintended consequences. With this bill’s passage, do you foresee certain scenarios or unintended consequences due to the impact of the bill?
Mr. Routledge: It’s hard for me to answer a definitive “no” to that, but I’m assuming, for example, with clause 9 on page 25, the requirement to report to the minister, we would have to add some head count to do that. Outside of those types of issues, no, there would be nothing that strikes me.
Mr. Tardif: Superintendent, would you like me to add one example for the senator?
Mr. Routledge: Go ahead.
Mr. Tardif: There are already examples of unintended consequences, not as a result of this bill or the result of OSFI’s work. One example that the superintendent and I were introduced to when we met with companies out West was the availability of insurance. For example, in Canada, we have large global insurers that specialize in highly technical risks, typically in large industrial projects. These companies are based in other countries, such as in Europe, and they have to meet strict sustainability reporting standards, so they themselves are pulling back their risks and not insuring high-risk projects. The unintended consequences of these types of initiatives are already being felt in different sectors of the economy, and we saw it with regard to highly complex technical insurance that is typically done offshore.
The Chair: Thank you for that.
We have a few questions here on second round, but what I’m hearing the two of you saying is that most of the issues that the bill attempts to address are dealt with under existing OSFI rules and regulations, which is your mandate. The question of unintended consequences is sort of a possible distortion in terms of investment decisions and then additional risk in terms of investment. If you’re going to invest in an oil and gas company that’s doing transition, you’ve already done the homework on that. If you’re investing in some small company that has a one-off project, then that will be an unlikely investment because it’s too risky. Thank you for that.
Senator Loffreda: Thank you, Mr. Routledge, for being here and answering all of our questions.
You did mention unintended consequences, and we’re discussing it. If I bring into the picture my 35 years of experience in the financial industry, what hasn’t been said is that the banks are a reflection of our economy, and most governments do believe in a just transition.
When we talk about materiality, if I go back to my audit days, which are far behind me, you talk about $8 trillion in assets in the banking industry. Materiality would always be between 5% to 10% of earnings, 1% to 2% of total assets, 2% to 5% of shareholder equity, in those ranges. I think I’m reasonable when I say that, and I’m going back a long way now. Those are big numbers.
Is our economy not transitioning quickly enough? How satisfied are you with the progress of the banks? With unintended consequences, let’s face it and call a spade a spade. How many jobs would be lost in Western Canada? How many jobs would be lost in Canada? It’s fair to say the banks could help that transition in that they just don’t finance companies that are not transitioning quickly enough, but those are the unintended consequences in how many jobs would be lost.
I have another quick question afterwards, if you’ll allow me. Thank you.
Mr. Routledge: The part of that question I think I’m qualified to answer is whether I’m satisfied with the progress of the banks. As a regulator, you’re sort of paid never to be satisfied, so in one respect, and the reason why Mr. Tardif’s leadership is so important to OSFI, we are constantly pushing them to up their game in terms of climate risk management. We are perpetually dissatisfied in that respect.
In another respect, Guideline B-15 was our largest consultation in history. I think we had over 4,000 submissions. It had very significant consequences for all of the financial institutions we regulate. We got it done in under two years. That’s fast for OSFI. To do a regulation that quickly is fast for us. One of the reasons it was rolled in as quickly as it was is because the industry recognized that this was an important and responsible thing to do, not just because we were saying it, but because their investors were telling them, “You guys need to turn and face the risks that flow from climate change and you need to do it now.” In that sense, I’m very encouraged by the banks’, the life insurers’ and the P&C insurers’ progress towards adapting their risk management systems to these risks.
I’m dissatisfied with where we are at this point in time, and I’ll always be moving the bar ahead. I don’t want to communicate we’re anywhere close to done or anywhere close to satisfied or anywhere close to the end game, but if you had asked me two and a half years ago when I took the job whether we could have gotten this far in climate, I would have viewed this as a positive surprise.
Senator Loffreda: Broadly speaking — we didn’t talk about cost — what financial implications might be associated with the implementation of Bill S-243? This includes cost to the government, financial institutions and the overall economy. Moreover, does this bill have both direct and indirect ramifications on all financial institutions and their clientele?
Mr. Routledge: This bill, if implemented as is, would certainly influence and have an impact on the financial system, perhaps in ways intended and unintended, but Canada’s financial system is — and this is a good thing — highly profitable and very well capitalized, and that will be the case regardless of the fate of this bill.
[Translation]
Senator Bellemare: My question is along of the same lines as Senator Loffreda’s.
First, this is a fairly complex bill, if not an extremely complex one. We do not really know what it entails. Unfortunately, we cannot determine what the bill means for you, given your answers. Perhaps other witnesses will shed more light on that.
What is the cost-benefit ratio of the bill? Part 1 of the bill says the following:
An Act to require certain financial and other federally regulated entities to mitigate and adapt to the impacts of climate change.
It is a question of how this will work. Reports are one element, of course. But we have a strategy in Canada, namely, carbon pricing.
In your opinion, to what extent do financial institutions support or disagree with carbon pricing in Canada? Carbon pricing has costs for everyone. It generates revenues to fund the transition. There is a whole logic to it.
In your opinion, how will this bill mesh with carbon pricing? No doubt you understand the consequences of this bill better than I do.
[English]
Mr. Routledge: You’re taking me well outside my mandate as superintendent. I will try and stay within it.
Tax policy will have an impact on earnings and revenue from business activities, not directly in the financial services industry per se, but certainly it will affect relative returns to capital throughout the economy. Those relative returns to capital throughout the economy will affect bank decision making. To the extent there is tax policy that shifts relative returns towards non-greenhouse gas emitting energy sources, I expect capital will follow, and the banks and insurance companies we regulate will also follow. With respect to how this law might affect that, I’m not really an economist so I’m not quite sure.
Senator Yussuff: We have seen the transition happening at sometimes faster speeds. For instance, with coal generation electricity, there has been a target objective of 2030, and there will be an extension for some provinces. Essentially, we say we need to get out of that business — it’s bad for the economy, climate and human health and whatever — and that was the objective of the government and the provincial government. If you were financing that, you would need to recognize that we don’t have a lot of time and that this is a short runway to operate with.
Given that reality in the context of new targets for 2030 and 2050, transition financing will be critical because we can’t magically get there. We have to get there by making the economy function so we can get people jobs and taxes and the whole nine yards. Are you satisfied with where we are with the transition financing from the banks and what they are putting aside to accelerate their involvement in this new economy?
Mr. Routledge: Again, you’re taking me out of my comfort zone. I’m satisfied that our capital regime in place would not impede movement towards transition assets when the right lending opportunities present them.
To be honest, I’m also less than satisfied that we have the measurement in place for our institutions to get better at that lending, which is why we’re pushing on Scope 1, Scope 2 and Scope 3. As we get more empirical data, we’ll be able to engage with the institutions and ask questions such as: Looking ahead, do your risk weightings on this asset class make sense given the exposure to specific greenhouse gas emitting energy sources, or greenhouse gas emissions? Does this asset class change because it’s less exposed to emissions?
I’m dissatisfied because we don’t have that empirical data, but we do have a fairly balanced risk-based system of bank capital and insurance capital that will tend to allow the executives who make capital allocation decisions to make them on the merits and the opportunities of the loan — the profits of the loan.
Where we have to do better, which is why we put in place B-15 and why we put in place our deadlines for disclosures, is we want to provoke the institutions to start measuring emissions data and then considering that data when they think about their risk taking, and we have work to do on that.
Senator Massicotte: I have a question that is not directly related to the bill but is just to better my understanding, if you don’t mind. The whole system, from your perspective, is you’re measuring debt. You’re measuring the repayment probability of that debt. We talked earlier about pension funds. They are not involved, but at the same time, they have little debt, most of the time. If there is a significant decrease in value, it won’t affect you, but it will affect the economy in a big way. If it goes down 20%, it’s not a crisis, but obviously you feel less wealthy. If that is the case, which I think it is, now you see a lot of pension funds operating outside Canada, so you have this currency risk. At the same time, they are getting pretty complicated re some leverage, so the risk level is going up. Some people are asking why they aren’t doing it more in Canada because the payments would be made in Canadian dollars, not American or European dollars. One repercussion could affect the other repercussion, and that could affect provincial banks subsequently. How do you manage all that?
Mr. Routledge: I think it’s fair to say that one of the reasons that accelerated quite considerably our work in climate risk was the problem of asset valuations and stranded assets if they are transitioned to non-greenhouse gas emitting energy sources, and it happened in an unpredictable, abrupt way. If that happens, I think the subtext of your question is right. If the assets that back the loans and generate revenue to service the interest costs on the loans deteriorate in value, the quality of the loans will deteriorate in value. We’re pushing climate B-15 precisely for that risk.
As regards to pension plans, I would say the pension industry generally has done good, far-reaching work on this because they understand the risk of stranded assets. Their challenge and opportunity right now is to begin to assess how big the risk of stranded assets is and then look at their portfolios in the context of that risk.
I will say that, in Canada in particular, I think the pension fund industry has been quite farsighted on the issue of climate. Many of them are the shareholders that have nudged the banks to go further on climate disclosures and climate commitments.
Senator Massicotte: Thank you.
Senator Coyle: Hopefully, I won’t take you out of your comfort zone, but I just want to clarify. Both of you have spoken about the international waters within which you swim. I’m curious about those international standards, some of which are voluntarily adhered to that we have referred to here. Can you tell us about any other countries or jurisdictions that actually require the kind of alignment that this legislation is asking for?
Mr. Routledge: I’m not aware of any, but I would be happy to ask that question and come back to you with greater certainty. I’m not aware of any right now.
Senator Coyle: Thank you.
Mr. Routledge: Stéphane, did you want to comment?
Mr. Tardif: To add a bit of context, senator, there are a number of jurisdictions that have similar expectations to what we have in guideline B-15 around risk management. We are one of the few jurisdictions, prudential regulators, that have now introduced mandatory disclosures around climate risks, particularly around Scope 1, Scope 2 and Scope 3. We are the only financial regulator in North America.
The area that’s made the most progress in this field is Europe, so the European Commission, the European Parliament, have passed legislation around sustainability, and that have cascaded down to the European Central Bank, the European Banking Authority, the European insurance and pension supervisors. I wouldn’t compare it specifically exactly word for word to Bill S-243, but they have introduced sustainability. When we say that Europe is ahead, it’s because they have that legislative authority to push sustainability under their constituents that they are regulating. That’s why, when we look at disclosures and capital rules, as the superintendent mentioned earlier, Europe is a few years ahead of us.
The Chair: Thank you all very much.
Our thanks to Mr. Routledge, Superintendent of Financial Institutions, for coming back again and to Stéphane Tardif, Managing Director, Climate Risk Hub. We appreciate your comments. I know that you said you would send along some little bits of data should you come across that, and we would appreciate it.
There were some comments about Senator Galvez being here to present her bill and ask questions, but when we travel as senators, we all have the right to have a substitute here. I hope that clarifies that.
I believe that brings our meeting to a close. Thank you all very much.
(The committee adjourned.)