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Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce

Issue 39 - Evidence - Morning sitting

OTTAWA, Thursday, November 5, 1998

The Standing Senate Committee on Banking, Trade and Commerce met this day at 9:00 a.m. to examine 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.


The Chairman: This is the last day of our hearings on this matter. We will have completed 150 hours of hearings in a little over five weeks. We have travelled from one end of this country to the other.

To start us on our last day, we have, from the Business Development Bank of Canada, Mr. Francois Beaudoin, President and Chief Executive Officer, and Mr. Michel Vennat, who is the new Chairman of the Board.

Mr. Michel Vennat, Chairman of the Board, Business Development Bank of Canada: On behalf of the Business Development Bank of Canada, which we call BDC, we would present our views on the future of Canada's financial services sector, particularly as it relates to small business financing.

We will also provide your committee with an update on BDC's activity since the new legislative mandate of three years ago.


As Canada enters the 21st century, our financial services sector will play a fundamental role in determining how prosperous we are as a nation. We have seen in other countries, even in highly industrialized countries, that a flawed financial services system can create obstacles in the marketplace, obstacles that inevitably lead to economic disruption.

Fortunately, Canada has a strong and progressive financial services sector, with a lot of credit going to the work you and your predecessors on this Senate committee have done over the years. Times do change, and with greater sophistication in information technology, the pace of change has accelerated.

The suppliers of Canada's financial services have no choice but to evolve rapidly, stay ahead of their competition and continue to ensure that all Canadians, and I stress the word "all," have access to the best, and affordable, financial services in the world. And this includes, of course, the nation's small businesses.


Access to financing for small business must not deteriorate. You have the opportunity to improve the small business financing environment in Canada. Despite being a dynamic and growing sector, too many small businesses still feel that access to financing is less than adequate.

This sector is a vital contributor to job creation, innovation, and to the GDP. Improving access to financing can promote economic growth in all regions of Canada. I urge you, when assessing the financial services sector and preparing your conclusions, to give priority to the interests of our small businesses from coast to coast and to ensure they have access to competitive and efficient financial services.

Small business is BDC's business. BDC has delivered on the mandate you gave it three years ago.

Since joining BDC as chairman in June of this year, I have been quite impressed with the types and level of service the bank is providing to Canadian small businesses. Even though it is owned by the government, it operates in a commercial, business-like fashion, a quality that is much appreciated by its clients.

It is also been quite innovative, especially since 1995. BDC is now recognized as a leader in addressing long-term and growth capital requirements of small businesses, certainly those of knowledge-based industries and exporters.


As the financial services sector evolves, the BDC is well positioned to ensure that small businesses' financial needs are addressed, competently and effectively. Further, I can assure you that the bank will respond quickly to any new needs that may develop in the market, as it has in the past, through innovative services and partnerships with others.

With your permission, Mr. Chairman, I will now ask Mr. François Beaudoin, our president and CEO, to present his remarks on behalf of BDC.

Mr. François Beaudoin, President and Chief Executive Officer, Business Development Bank of Canada: Mr. Chairman, as Mr. Vennat was saying, the challenges and opportunities facing our financial institutions are many, and complex, and I praise the MacKay task force for laying them out in a straightforward manner for Canadians. The task force also laid out the need for change -- change in the way our financial services sector is structured -- so that Canadians can continue to have world class and affordable services as well as strong, viable financial institutions.

At the Business Development Bank of Canada, BDC, we dealt with change three years ago, when Parliament gave us a new legislative mandate. Its primary thrust was to make the bank a more active provider of financial and management services to Canadian small businesses.


BDC is a self-sufficient, commercially oriented institution that does not cost taxpayers a single penny.

With the full support of the government and of the Minister of Industry, the Honourable John Manley, I am pleased to report that BDC has delivered on its mandate. I will show you some of the results over the past few years.

This first chart is the loans and guarantees authorized in the period from 1993 to 1998. As you can see, we have more than doubled our level of activities in that period of time. In 1993, we authorized $641 million to small business in Canada. Last year, it was $1.4 billion of loans and guarantees to small businesses. This is an increase of 20 per cent over the previous year.

I also point to the area of equity and quasi-equity lending, which is probably the most risky area as it has a strong demand from knowledge-based industries and technology companies. We have broken down the equity, through our venture capital division, and quasi-equity, which are the new hybrid instruments we have introduced. In the period 1993, to 1998, our involvement increased nine fold, from $22 million to $184 million during that period.

An important part of our mandate when we came to you three years ago was to service the so-called knowledge-based industries and exporters.


In terms of percentages. During this period, while this represented 15 per cent of our new lending in 1994, the bank increased this percentage in 1998, and that's the percentage of the $1.4 billion that I showed you earlier, at 39 per cent. In the years to come, the bank's management should strive to have this percentage rise to 50 per cent. In fact, companies in conventional sectors, knowledge-based companies and exporting firms should have an equal share of our financing.


The taking of higher risk at BDC has been done to a profitable basis. It was part of our mandate to show that supporting small business could be done on a profitable basis. I have a chart showing the levels of profits achieved in the years 1994 to 1998. You can see the significant increase in profitability. Starting in 1997, we have been paying dividends to our shareholder, the Government of Canada, to the extent of $6 million last year. We project a continuing increase in future years.


Mr. Chairman, in addition to increasing our annual financing, BDC has become the primary source of innovative small business services in the market.


Our quasi-equity financial products -- venture loans, patient capital, working capital for exporters to name a few -- are market leaders. We designed them to meet the special financing needs of knowledge-based industries, or KBIs, and exporters.

BDC was the first to fund a solution to providing capital to high technology projects still in their early stages of development. With partners across Canada, we have established seed capital funds. These funds finance projects to the stage where they are attractive to conventional venture capitalists.


Mr. Chairman, BDC has extended its reach to small businesses in all regions by entering into partnerships with all major financial institutions. We have ongoing programs with chartered banks to support youth entrepreneurship and knowledge-based industries.

We have also entered the electronic business age with BDC Connex. This service makes us a virtual bank on the Internet. A client does not have to come to one of our offices to deal with us. He or she can do so through electronic means. So BDC Connex is going farther than what Wells Fargo can do for small business in Canada and the United States.

To assist small businesses in making a smooth transition to the new millennium, we have Year 2000 Ready, a comprehensive program that includes diagnostic questionnaires and financing for software and hardware conversion.


Mr. Chairman, when we look at Canada's small businesses today, we see a sector that is more dynamic and innovative than it has ever been. At BDC Connex, we have had the opportunity and the pleasure to be associated with some of the most dynamic Canadian companies.

We were one of the very early investors in Ballard Power in Vancouver when the technology was just coming out of the labs. In Atlantic Canada, BDC has financed Seagull Pewter. In Quebec, BDC was an investor in a then young company called Cinar. In Ontario, we have financed Roots. In the prairies, BioStar is a client of BDC.

I give these examples because at the time we were involved with them, their financial needs were seen as risk capital. As the only institution specializing in small business financing, BDC saw these needs as growth capital for promising, dynamic businesses. I have also cited these BDC clients because they represent the kinds of companies that are the future for Canada and, moreover, the kinds of companies Canada's financial institutions must support.

The MacKay Task Force Report on the Future of Canadian Financial Services states:

The Task Force urges Canadian financial institutions to be prepared to make credit available to higher risk borrowers with more innovative financing packages and appropriate pricing.


We fully support this recommendation. I might add that the task force noted the strong role the BDC is playing in small business financing, and its record as an innovator of new risk-sharing instruments, particularly quasi-equity instruments.


Small businesses are major users of financial services and are quite dependent on those services for their livelihood. I am hopeful, therefore, that you will give specific attention and priority to how the evolution of the financial services sector will affect small business.

One of the key concerns for small business is the potential merger of chartered banks. Small business is quite apprehensive about how the industry will evolve, and they have many questions. Small businesses are wondering what will happen to their line of credit if chartered banks are allowed to merge. What will it do to their choices for financial services? These are bread and butter issues for them. They are waiting for responses in the months to come.

Many small businesses feel that access to financing is already restricted by the limited number of sources in the market place. Compared to the start of this decade, small businesses have fewer financing options today. For example, trust companies and insurance companies used to be active lenders, but they have since left the market. In this regard, I support the MacKay task force report and its recommendations to attract new financial institutions into the market from Canada and abroad. A level playing field to encourage the establishment of institutions that would serve the small business sector is required.

New entrants into the banking industry would promote competition and innovation. Thus, I would urge you to consider the rules of entry into the Canadian banking sector and see how the interests of small business can be promoted.

Placing a clear focus and priority on small business will improve access to financing for small businesses across the country. Thus, I also support the concept of a specialized small business bank that has been proposed by two of the chartered banks.

At BDC, small business is our only business. This has allowed us to focus on their needs and to respond in innovative ways, while being profitable. It is this focus that is needed in the marketplace. Specialized small business banks could provide that focus.

The MacKay task force report has highlighted that Canada is a concentrated market. Regardless how the bank merger issue is resolved, we need more alternatives in the Canadian marketplace. Today, BDC is a complementary source of term financing and equity capital for small-and medium-sized enterprises. In a changing landscape, BDC can be called to play an even greater role in the market. Our clients are telling us that they expect BDC to be more broad-based and offer a wider array of financial products to meat meet their needs. We are responding to the limit that our mandate allows.

In conclusion, BDC has served small business well. As we face the next major restructuring of Canada's financial services sector, BDC will surpass itself. It will utilize all its means to anticipate changing needs and to provide new and innovative financing solutions. We are present from coast to coast, and we are focused on the businesses that will become Canada's leaders of tomorrow.

The Chairman: Thank you very much. When I see a statement in your presentation that you are now a self-sufficient, commercially oriented institution that does not cost the taxpayers a single penny, I wonder why you are a Crown corporation at all. However, that is a subject for another day. It takes this committee back to the report we did on Crown financial institutions. We had hoped it would be the beginning of a phasing-out of government direct involvement in this business.


Senator Hervieux-Payette: One very important issue is providing small businesses with access to financing so that they can expand, and in some cases even create, their companies. At present, you are operating 85 branch offices. Your financial partners in the private sector have hundreds of branches. Are you getting any complaints about the accessibility of your services?

Mr. Beaudoin: On the contrary, our clients find us to be much more accessible, since the bank slowly, carefully increased the number of branches over the years, in the right locations, and since we now offer virtual access to the bank.

Approximately one decade ago, our branches were located in somewhat ho-hum office towers, and people had a hard time finding our offices. Now the branches we have throughout the country are located downtown, on the ground floor. They are accessible and quite visible. Now that they are more visible and more accessible, we are much closer to our clients. I would not say we are getting such complaints. That comment is probably due to the growth in our activities and our improved visibility.

Senator Hervieux-Payette: How do you serve clients who live outside of the big cities? Eighty percent of the population lives in urban centres, but even so, there is still 20 per cent living in rural areas. Do you have any arrangements for delivering your services to small businesses starting up in isolated areas, just as you deliver services in big cities such as Montreal?

Mr. Beaudoin: With 85 offices, we do have a very large network to cover Canada. In fact, about 60 per cent of our activities are outside of urban centres. This is an important activity for us. We cover all locations with our network of branch offices. If we don't have any presence in one particular region, the closest branch office will organize trips to that location on specific dates. We use the chambers of commerce's premises so that our representative can meet with the business community.

Senator Hervieux-Payette: So you are telling us that your institution serves all Canadian communities that might need your services?

Mr. Beaudoin: There is that access, and in the years to come, we will always be monitoring the amount of business, to see whether there is enough to justify a permanent presence. The decision is based on analyses of the market and of our volume. Actually, last week I inaugurated two new branch offices, one on North York, in Toronto, and one in Pointe-Claire, Quebec. Activities in both these communities had risen substantially. I also recently inaugurated our new main office in Vancouver. These are examples of how we have been expanding our presence in order to meet the needs of various locations.

Senator Hervieux-Payette: By the same token, if we expanded your mandate -- you mention that in your brief -- to serve companies other than those offering loans to businesses and to round out the range of banking services, in that case, would you consider the suggestion that some people have made that you use post offices throughout Canada as outlets in rural areas so as to provide people with basic banking services? Could a company such as your own expand its mandate and enter that sector so as to make up for certain shortcomings within the private sector?

Mr. Beaudoin: That option warrants consideration. That solution has been used in other countries, and we would have to look at how it could be done in the Canadian context. Our current network of financial institutions would also have to be used. Our country has it awfully good, because there are finance companies, chartered banks and caisses populaires throughout the land. We would not want to duplicate a network that already is very strong. It is more a matter of using it correctly. Many forms of cooperation are possible if we use the existing network to provide services to clients.

Senator Hervieux-Payette: Your brief does not specifically ask for access to the payments system. By expanding your mandate, it might be possible for you to have automated teller machines. The businessmen who have loans with you must make payments. Is your company part of the payment system? Would you be interested in having ATMs for your small business customers who have opened accounts with you? Do you already have agreements with your partners from the world of banking?

Mr. Beaudoin: At present, the BDC cannot take deposits from our clients. The BDC cannot offer operating lines of credit to its clients. The whole issue of joining the payments association is still being looked at within the overall context of expanding the services that the bank should be offering to its clients.

Senator Hervieux-Payette: Even so, your customers must have to pay interest and part of the principal every month. If you are lending, you have thousands of clients who have to use another banking institution to send you a payment.

Mr. Beaudoin: The Canadian banking system serves us very well insofar as our clients can make a deposit at the financial institution of their choice and these payments are forwarded to us electronically. That is how the payments on our term loans are made. Taking deposits or joining the payments association represent another stage, a different level of involvement in small business.

Senator Hervieux-Payette: We asked several major banks why they were not involved with higher-risk accounts who go see you or other loan companies. We asked them why they did not set the interest rate according to the level of risk. They told us that would harm their reputation. I imagine setting higher interest rates according to the level of risk has not hurt your reputation. So, what is the BDC's philosophy regarding higher-risk loans?

Mr. Beaudoin: The philosophy has been to set interest rates according to the level of risk. Small business told us that access to capital was their greatest challenge, and that when they were successful, they did not mind sharing their success with the financial institution that had supported them. Over the past five years, we have followed this principle of sharing the risk and sharing the success. It has been a way for us to earn a better return on a higher level of risk and to earn the surpluses that we have had.

Senator Hervieux-Payette: Some clients will pay the prime rate plus two, three, four or five percent, depending on your specialist's assessment of the file.

Mr. Beaudoin: Exactly. When I was talking about quasi-equity financing, the bank often shares in the company's profits as part of the loan payment arrangements. We share the success. If the business works, the entrepreneur is happy to share part of the success with us, but we also take the risk of failure.


Senator St. Germain: Further to what the chairman said in regards to you returning something to the shareholder, do you not think that you will start building expectations in the shareholder that you could shift your focus from being a high-risk lender to being a cash cow for the shareholder? Do you not see a danger in that?

Mr. Vennat: Senator, we are quite clear at the bank as to our mandate. The question the chairman raised earlier dealing with ownership of the bank is not one on which we are spending a great deal of time. We have much more business to do within our present mandate. If ever the government and Parliament wished to give us a greater mandate, we would be prepared to meet it. At the present time, we are not spending any time on it.

Senator St. Germain: What have you actually done to simplify access to the funding? Historically, any government organization, regardless of what it is, has been so cumbersome that it has discouraged small business. For those of us who come from small business, who started with nothing 30 or 40 years ago, this was not a viable option. Making application was so cumbersome and so onerous that it was ridiculous. By the time you got halfway through dealing with the bureaucrats, you ran out pulling your hair and ended up at the credit union or somewhere signing your life away. At least there were funds available to you. Has there been much change in that area?

Mr. Beaudoin: I can give you an example. BDC Connex, our virtual bank, is open seven days a week, 24 hours a day. You can call BDC any time. The number is 1-888-INFO BDC. It is easy to remember. The turn-around on some of our products is committed to be 24 hours.

I mentioned previously access to BDC branches. It used to be a challenge to find us in any community. We have relocated our branches in the downtown core, ground level, visible, accessible. Our hours reflect the needs of small business. We will go to the entrepreneur's place of business. We will bring the application form and have a computer at the site of the business to input the data so that a turn-around can be provided in two weeks' time if it is a major project that is being considered.

These are some of the initiatives that have been introduced to make access easier.

Senator St. Germain: Is access equitable right across the country? Coming from British Columbia, I must ask that question.

Mr. Beaudoin: It is good question, because British Columbia has some of the best access.

Senator St. Germain: What about Manitoba and Saskatchewan?

Mr. Beaudoin: They are well covered. We need to look at additional areas that could be covered.

British Columbia, with 14 branches, is an important market for the bank, especially now when the economy is suffering from the Asian flu. We are willing and planning on making significant commitment in that province to ensure that it comes out of this uncertain environment.

Senator St. Germain: Mr. Beaudoin, we need all the help we can get.

Perhaps I am reading something into this that is not correct, but you say small business is asking, "If chartered banks are allowed to merge, what will it do to my line of credit?" I cannot believe, having dealt with chartered banks for several years, that banks would undermine their business. Their business is lending money. As a small business person, I can see problems of them possibly rationalizing their operations, but a question like this confuses me. Why would anyone would ask, if everything is normal, whether their line of credit would be altered because of a bank merger? I ask you why this is part of your presentation.

Mr. Beaudoin: In the past two weeks, I have spoken with over 500 business owners. This has arisen. They talked about the line of credit in the context of, if ever they need to change banks, how many alternatives will they have. If they need a different institution that will provide perhaps a higher level of operating lines of credit or if their line is maintained at a certain level and they need to have it increased, where do they go? They will have fewer alternatives. It is the issue of alternatives and the impact on terms and conditions.

Senator Joyal: Mr. Chairman, you raised an issue which will be very important in the future, which is when is the right moment to transform a Crown agency or government agency -- there is no distinction in the matter in that respect -- into a private sector, profitable entity.

The Chairman: I raised it only because it was such an obvious response to the opening statement. We have a limited amount of time. I do not want to get off into that issue today, although I will be very happy to do so after Christmas. I want to focus on the MacKay report today.


Senator Joyal: Would the government letting you offer lines of credit to your clients not be the next logical part of your normal growth? Once the BDC has to turn a profit and you no longer have access to public monies as a source of capital, you must not be placed in a position where you are so vulnerable that you lose your ability to turn a profit and thus survive as an independent body that small business can turn to.

Should we not allow you to offer lines of credit? should that not be the first fundamental change that we should make to your status, now that you are turning a profit?

Mr. Beaudoin: You must not perceive operating lines of credit in terms of profitability, because that can be profitable for us. You have to look at them in terms of the needs.

Is there a need within the market? Does small business need an alternative to operating lines of credit?

As I was telling you, after we met with many business leaders and listened to them, we saw that small business wanted us to expand our services, including offering operating lines of credit; secondarily -- this is not an objective in and of itself -- this would mean that we would have to be able to accept deposits. An operating line of credit is secured with a deposit. So that is the need that we are trying to meet. It is not part of the bank's current mandate, and this issue will have to be considered in the months to come.

Senator Joyal: One of the fundamental recommendations of the MacKay report is to open up or strengthen the "second tier," as it is known, a second level of financial services that would be a great deal more vigorous and a great deal more accessible than the level of service we currently have. Are you not, along with the caisses populaires, one of the key institutions that can help bring down the barriers and strengthen the second tier that the MacKay report recommends?

Mr. Beaudoin: The bank has unusual expertise because we are the only institution that specializes in small business. In the financial environment that was studied over the past few months, people realized that small business is the sector that will be the most affected by the concentration, whether the mergers go ahead or not. Thus, using this tool that Canadians benefit from is an opportunity.

Senator Joyal: You said that you can compete with Wells Fargo. That statement will certainly surprise some of us. The American institutions on the market come here to cream the market. Don't you think you've been somewhat presumptuous in saying that you can compete with Wells Fargo?

Mr. Beaudoin: Canadians are rarely presumptuous. But they are at the forefront in many sectors. Here is an example from a Canadian financial institution, a virtual bank that goes farther than what Wells Fargo can do. They limit their commercial loans to $100,000; through BDC Connex, we offer the entire range of commercial loans available to small business, up to $5 million. Our services are available 7 days a week, 24 hours per day. That is more than what Wells Fargo can do.

Senator Joyal: How do your interest rates compare to Wells Fargo's since you are mainly competing on the cost of dollars borrowed?

Mr. Beaudoin: When it comes to rate, Wells Fargo is operating in the same areas. They are not a source of cheap capital. BDC does not have trouble matching Wells Fargo's conditions.


Senator Kelleher: The MacKay report recommended the development of a second-tier line of banks. They recommend and suggest that perhaps "les caisses" in Quebec and the credit unions around the rest of Canada would be a useful group to consider allowing to become banks. They serve small and rural areas, and people in those areas are concerned in the event of bank mergers.

When they appeared before us, they told us that they work co-operatively with you now. Perhaps you could briefly tell us about that relationship. As well, perhaps you could tell us if that relationship will continue and perhaps expand in the event that they became banks.

Mr. Beaudoin: Our relationship with the credit unions is excellent. These institutions are present across the country in many communities where the BDC is not represented, as Senator Hervieux-Payette mentioned. This is leveraging our involvement in supporting small business.

Our strategic alliance with credit unions is working well. We are looking at different ways to improve that relationship in the years to come. If they are to be established as community banks, we would want to continue leveraging our support to small business through community banks. We will be studying different alternatives in the months to come to ensure that this access is maximized, as we have done with the chartered banks through the strategic alliances we have with them.

The one major difference with the bank's new mandate is the partnership we have developed with the financial institutions. In recent years, of the $1.4 billion I mentioned previously, the referrals we get from chartered banks and credit unions per year has averaged roughly $300 million. Nowadays, commercial financial institutions are a major source of referral to the BDC because they realize we can provide value added. We can supplement our financial services with consulting services. It has been a worthwhile relationship to develop with the various financial institutions, and a new status for the credit unions would reinforce that element.

Senator Callbeck: I wish to ask about the tourism and hospitality industry. We had hearings last summer in Atlantic Canada involving the Small Business Loans Act. We heard small business express the view that it was very difficult to get capital, particularly in tourism and hospitality. In fact, many of the witnesses claimed it was getting harder and harder. Is the percentage of loans in that sector going up or down?

Mr. Beaudoin: Tourism for the BDC has always been a very important sector, representing roughly 20 per cent of our portfolio. This is an area where we have introduced new instruments to ensure that we can support these businesses, especially as they are trying to attract a world-class clientele.

For instance, Blackcomb resort in B.C. was owned by the BDC before it was able to attract Intrawest. We invested heavily and sold our interest in 1992 back to Intrawest. Our work had been completed.

This is a sector where we have done extremely well. It has been a profitable sector for the BDC and a sector in which we believe.

We have established a fund of $500 million to support the development of world-class tourism installations in Canada. We think this area, especially with the attractive Canadian dollar, will grow in future years. We should support it. It is good business for the BDC, Canada, and for tourist operators.

Senator Callbeck: I am pleased to hear that. You mentioned 20 per cent. Is that a cap?

Mr. Beaudoin: No. It reflects the market demand. It reflects the specialization and the knowledge that we have in this industry. I think it is higher than what you would find in other financial institutions. It reflects the cyclical nature and the perceived risk that exist in that sector. Over the years, we have learned to work and to do good business with that sector.

Senator Callbeck: Talking about your price for risk, what is the highest interest that you have ever charged? It is the prime rate, plus what?

Mr. Beaudoin: When we are in high-yield situations, you will have a situation where it is not interest but either participation or options and shares that you hold in that company which gives you the return.

In certain venture capital situations -- that is, with some of the companies that I have mentioned -- the returns can be as high as 80 per cent through the bank selling its holdings in the stock market. It is not a question of interest but a question of capital gains in that situation. The participation we have in some of the companies where we get royalties can increase the yield on the investments that we make.

Senator Callbeck: What would be the maximum size loan that you would make?

Mr. Beaudoin: Our average loan is $250,000. Approximately 52 per cent of our loans are below $100,000. There are also sectors such as tourism, for example, Blackcomb. When we sold our shares to Intrawest, we had $14 million invested in Blackcomb, because it is very capital intensive. Our involvement in some sectors tends to reflect the capital-intensive nature of that sector.

When a company reaches levels of $10 or $15 million, we find that there are sources that are as expert at supporting these businesses. The nature of our operation, with an average loan of $250,000, reflects that factor.

Senator Callbeck: On the recommendations in the MacKay report for medium- and small-sized business, I assume from your remarks that you agree with them. Is that correct? Also, are there recommendations that are not here that you would like to have seen in the report to help medium- and small-sized businesses?

Mr. Vennat: We are in general agreement with the MacKay report recommendations on furthering and encouraging new entrants in this field. We do not claim to be the only participant. We believe we can be one of those participants, and we are willing not only to be one of them but also to do it in a cooperative fashion, whether it be with credit unions or anyone else. We work in partnership so that we can leverage the expertise that we have. We will never be able to do everything. We hope that in your recommendations you will favour those measures that you feel encourage more players in the field of lending to small- and medium-sized businesses.

Senator Kroft: I should like to focus on one particular area, namely, knowledge-based industries. It is an area in which I am interested.

We received a presentation in Saskatoon from a scientist who took us through the process of building a research-based business. It was typical of the situation in this kind of company where there was substantial investment represented largely in intellectual capital and knowledge and nothing in the way of sales or production. That is quite typical for a knowledge-based industry.

From presentations that we have received and from experience that I have learned in my own investigations, typically, the chartered banks are having a difficult time dealing in this area. It is a massively important one in terms of our economy and, in particular, the small business economy. In your witness list, Mr. Ballard is an example of that. However, there are many in the agricultural industry, the pharmaceutical industry, and so on. The difficulty with the banks is that there is none of the typical security that they would look to in terms of inventory or receivables, and often there are not guarantees that would be meaningful.

Can you tell us what special expertise or approach your bank brings to this situation?

Mr. Beaudoin: Basically, we have been in the venture capital business since 1984, with the establishment of a separate unit within the BDC that now has, on the equity side, a group of 22 people across the country. A subordinated debt group has also been established, which is present in most of our large branches. Today, that totals about 50. It is a group of 75 specialists who are experienced not only in finance but also in technology.

Increasingly, we hire people with science and business degrees, and people who have worked in technology and biotechnology. This is the only way we found to make investments on a profitable basis, namely, to have people who are as knowledgeable as the industries we are supporting. The formula has been to have the ability to evaluate the prospect of the product that is being planned and to do it on the potential of the business, not so much on the basis of the balance sheet that exists because the balance sheet is probably limited. It is the potential of the people and the technology behind it. Looking at the scientific and technology areas, and also at the people behind the project, has permitted us to make good investments.

Senator Kroft: Given that on a risk-to-loan basis there is almost no number on the loan itself with which you can work, you deal with equity or near equity or convertible debt or some sort of formulation at an early stage. Would you typically do this earlier than the chartered banks, or are you more ready to do that than the chartered banks?

Mr. Beaudoin: We created the first pan-Canadian seed capital fund 18 months ago. This is available across the country. We do it with different partners, such as ventures in the West and in Ontario. In Quebec, it is with T2C2.

Seed capital is money that is available before venture capital is available. This is the money that we make available between the "R" and the "D" of research and development. There is a concept, but the development has yet to be completed.

The amount of money that we extend in these projects is sometimes as low as $100,000 to get a research project completed so that we know if there is potential. From that point, we complete a second round and make it reach the development stage where venture capital money and other partners can support the development of the corporation.

The issue is the banks and their involvement. Increasingly, the banks are moving into that sector. However, we must understand. I come from the banking sector. I spent 17 years there. The fiduciary responsibility of banks to depositors is different than what we have in terms of a mandate. The approach you can take into investment is different.

Senator Kolber: We are trying to get at the current obstacles to helping small businesses. On page 6 of your submission, you suggest the need to promote competition and innovation in banking. Before you answer, I should like to have a few remarks on your balance sheet so that I can understand if we have a level playing field.

You have total borrowing of $3.89 billion, which is guaranteed by the Government of Canada. That type of financing is not available to any competitor -- that is, not to my knowledge. You then have total shareholders' equity of $500 million -- which I assume is the government's money -- on which you pay a dividend of about 1 per cent, perhaps 1.5 per cent.

You are in a unique position. You are doing a great job. However, there is an implied criticism that other people are not doing as good a job. One of the reasons for that is they do not have access to the cheap capital that you do. It would be interesting to know what rates you charge for your loans.

Mr. Beaudoin: That is a good question. First of all, I would trade the government-guaranteed funds that we have with the depositors' funds that the banks have available and the interest that they provide to depositors. This is cheaper than what we pay on world markets, in spite of the government-guaranteed status that we have.

Senator Kolber: That remark traditionally was true. It is becoming less and less true each year as depositors become more sophisticated. Bank deposits are going down. There is hardly any more zero-bank deposit, as you know.

Mr. Beaudoin: When you look at any chartered bank's balance sheet, that is the primary resource of capital to fund their loans. That is the point I would make.

You mentioned dividends and the cost of funds for BDC. We are paying dividends. The coupon is a commercial coupon. We are paying the market cost of funds for these funds on the preferred shares we have obtained from the government. There is no gift from the government on the preferred shares.

Senator Kolber: Perhaps you misunderstood. The dividend you are paying the government is what per cent?

Mr. Beaudoin: It has a coupon of 7 per cent.

Senator Kolber: On equity of $500 million, if you pay a dividend of $6 million, it does not sound like 7 per cent.

Mr. Beaudoin: We provide a dividend on the preferred shares. What we provide to the government on the common equity is the return on equity which last year was 10 per cent.

Senator Kolber: Basically they see 1 per cent of it.

Mr. Beaudoin: They see the fact they do not have to put in additional money to support our growth. Instead of paying a dividend, they say, "Use that equity to support your growth."

Senator Kolber: Like a negative dividend.

Mr. Beaudoin: This is a 10 per cent return on equity. This is not a bad investment.

Senator Kolber: Do you pay taxes?

Mr. Beaudoin: We are not paying taxes.

Senator Kolber: The average return to the Canadian banking industry, net after tax last year, was somewhere in the 15 range.

Mr. Beaudoin: Yes. The tax is an advantage that we have at this stage.

Senator Kolber: I am not being critical; I am saying that for other people to do what you do is probably impossible.

Mr. Vennat: If you read in our comments a criticism of the other institutions, that was not our thinking. The fact is, there are limited sources of financing, and these financings have been going down. That is a fact that we were mentioning. It is not a criticism.

Our job is not to find a regime where institutions can prosper and make money in the field that is of interest to us. We are recognized as a different breed.

Senator Kolber: Tell us the present obstacles in small businesses getting access to financing. The numbers we have heard from the banks is that they say "yes" to 95 per cent of the applications. Perhaps people are afraid to make applications. I do not know. There seems to be available money for small business in Canada.

Mr. Beaudoin: The number one issue is having more alternatives. It is too concentrated a market. Specific needs of sectors need to be addressed, such as knowledge-based industries and technology. Overall, if there is a challenge we face as a nation, it is having more alternatives.

Senator Kolber: If you had more alternatives, as they have in the United States with 9,000 community banks, they do not say the community banks will charge prime plus 5, 6 or 7. We do not do that in Canada, nor do we want to. It seems to be a fear of usuriousness.

Mr. Beaudoin: That is valid. The margins and rates businesses obtain from Canadian chartered banks are very attractive. On average, if you look at the spread in the U.S., they are often higher than they are in Canada.

Senator Kolber: They are often double the amount.

Mr. Beaudoin: I have not seen the data recently, but they were higher.

Senator Kolber: The average bank spread for their profit portion is double.

Mr. Beaudoin: The data I have even was not that, but it was higher. This reflects the fact that there are more alternatives in the U.S. willing to charge appropriate levels of interest to compensate for the risk involved.

The Chairman: Thank you very much, gentlemen. We appreciate you taking the time to be with us.

Senators, our next witness is Mr. Kuhlmann, president and chief executive officer of ING Bank of Canada.

Thank you very much for taking the time to be with us today and welcome. This is the first appearance not only by you, but also by a member of your institution before this committee. We trust it will not be the last.

Please proceed.

Mr. Arkadi Kuhlmann, President and Chief Executive Officer, ING Bank of Canada: Honourable senators, on behalf of ING Bank of Canada, I am delighted to be here. In the interests of time and realizing that this is your last day of deliberations on this subject, I will be extremely brief. Perhaps I will give you a different kind of focus than what you normally would be discussing.

I should like to give you a sense of the consumer retail market in Canada and what is going on in that market. Perhaps I will be able to speak about ING Direct and how it is operating in the market and what problems it has encountered. I will also address what we see as the future vision for Canada.

Since ING Direct started in the marketplace about 15 months ago, it has become evident to us that the Canadian consumer, when it comes to retail banking, is faced with a tremendous number of problems: service charges, difficulties moving money, and access to loans. Basically, consumers are left with fewer choices on convenience of alternatives. There is a tremendous amount of dissatisfaction when you speak to Canadian consumers day in and day out. When you lift the cover of the normal stereotype comments, real stress is found. Consumers are finding access a problem. They are finding high interest rates a problem. Consumers are having difficulty getting higher interest rates on insured deposits.

In many ways, there is a different story going on Main Street than on Bay Street. While there is competition on Bay Street, there is not that much on Main Street. On Main Street, you will see storefronts were Canadians must go to get cheques cashed. I remember not so long ago where that was not the case. There are many kinds of regulated and non-regulated entities providing high interest rates on loans. These are basically a detriment to Canadian consumers.

Not only do we need to increase competition in the retail marketplace, but we must also address how we can transform the industry. There is a vision about the future as we look at alternative channels being not only branches and stores, but also the telephone, PC banking, computers, cable, mail, and any other ways consumers can buy, shop, and access financial services.

There are tremendous problems. Suppliers are trying to grapple with some of these problems as we go forward through the transition of the industry. Some of these problems could be as simple as the ability to deal with an electronic signature, for which we still have no legal precedent. This makes the electronic world difficult. Without the verification of individuals in that electronic world, the ability to move money between institutions is still not possible.

If one looks at some of these issues, we need to look at the structural problems in the industry, which is the regulatory aspect, the insurance aspect for depositors, and the Canadian Payments System. In all of these areas, it is tough for the banks to not only be the suppliers and operators of those institutions, but also compete. As we go forward, we wish to increase competition and allow people to compete. We need to free them up from some of these industry infrastructures which need to be enlarged, beefed up, and supported so that we can have a more level playing field.

ING Direct has committed $500 million to building a retail bank in Canada. It seems to me that in the last 30 years I cannot recollect that we have had a successful retail bank, domestic or foreign, enter the market and have a sustained success. It would seem to me that it is foreign investors, such as ING, who are willing to make a major commitment to Canada and see a much more promising future than some of us do here at home. ING Direct is run by Canadians, using Canadian technology, providing Canadian jobs, doing its share as a corporation in Canada. It is an interesting model to provide a very simplified discount retail delivery system to the consumer, which in the last year has paid Canadians an extra $40 million in interest that, if we were not in the marketplace, Canadians would not have earned.

We offer simple products. We make them accessible to all parts of Canada. We support the ever-growing financial planning community in this country with the same kind of commodity products because they are serving Canadians in all walks of life.

To look specifically at ING Direct's problems, the most poignant of which is not much the normal obstacles of what you would need to enter as a regulated financial institution into the marketplace, but rather the lack of transparency in the rules and the guidelines. It would seem to me that if we are asking people to invest hundreds of millions of dollars, there should be clear guidelines about what you need to do to accomplish certain tasks and tests that would ascertain the security, safety and integrity of the institution.

As we go forward and develop new kinds of models for the regulatory environment, the payment environment, and certainly CDIC, we should keep those factors in mind so that more institutions like ING can come into the market and enhance competition to Canadian consumers' benefit.

The Chairman: Having read your brief, let me comment on two areas.

In regard to the Canadian Payments Association, or what you call the clearing system, I understand your frustration with the system as it is. Given the recommendations in the MacKay report, which affect both the governance of the CPA and opening it up so other financial institutions like yourself would have direct access to the payments system, do those changes solve the problems about which you have been concerned?

I will read to you two sentences as an example out of your paper. You say:

It is imperative that the regulation of the CPA be taken out of the hands of the major banks.

The governance changes would do that.

Then there is a statement which puzzles me. You say the current rules of the CPA are non-competitive and require dramatic revision. We agree with that, but your sentence actually is:

The current and proposed structure and rules of the CPA are non-competitive...

Do you mean the structure as proposed by MacKay, or the structure as proposed by the CPA itself?

Mr. Kuhlmann: I am referring to that proposed by the CPA.

The Chairman: If everything that MacKay recommended on the CPA was done, which this committee has argued for in the past, would that solve your problem?

Mr. Kuhlmann:It would in part, but it would not go far enough.

The Chairman: What is missing?

Mr. Kuhlmann: Some of the guidelines we are doing now about electronic transfers are missing. The CPA has a proposal about debit pulls and credit pushes, and it looks like we will go to a system of debit pulls.We will look at electronic pulls for under 13,500, and we will talk about electronic movement over 50,000, and with anything in between we are talking about paper. I do not believe you need to go very far to figure out that that will create a bit of havoc for consumers.

The Chairman: Progress is made, and your worry is not the governance at that point, but the actual details of the rule?

Mr. Kuhlmann: There are phase-ins to all these systems to assure security and safety of the system. It must be done on a logical basis. It must be rolled out. It is an institution which needs to work on evolution. The real issue is whether it has the resources, the funding, and the independence it needs to move that ahead, especially if there are more players at the table.

Senator Kelleher: I was unaware that ING was a federally chartered Schedule II bank, and I should have known that. For that reason, I wish to declare a conflict of interest, and I would ask the clerk to note that on the record. I will not take part in the questioning.

Senator Oliver: One of the key things that the MacKay task force and all its volumes talk about is competition. One of the wonderful things you have done today is give us a living example of a foreign company that wants to come to Canada and provide some competition, particularly at the retail level.

I have quickly skimmed through some of your paper and read the things you did not mention. It seems to me that you have encountered a number of problems in trying to provide a good tier two banking network for Canadians as an alternative to the major five or six big banks. On page 4 of your paper, for example, you say:

With the increased success of ING Direct we have observed many incidences of the major banks using "anti-competitive" tactics to secure and maintain customers.

Could you explain what it is you have learned and what problems you have encountered?

Mr. Kuhlmann: Yes, it would be my pleasure.

It is probably a healthy sign that we see good marketplace competition. However, in the financial service sector, there are ground rules that are very important in order to provide confidence in the system. Part of that confidence is jeopardized when institutions in the marketplace put out misinformation about other competitors. Consumers already face a huge problem in trying to sort out services, products, prices, fees, and so on. You can add to that comments to the effect we are either not CDIC insured or we are not in this country and there are no Canadians working there.

Senator Oliver: You are CDIC insured. If someone invests $60,000 with you, and you have a financial problem, their money is guaranteed.

Mr. Kuhlmann: Absolutely. The problem is that under the rules, because we are basically not a branch bank, we have very limited ways of advertising. This is one of the problems and the limitations of transition in this marketplace. We must get our name out there and tell people we are CDIC insured.

Some banks are telling people, when they indicate that they wish to make out a cheque to ING Direct because they pay a great rate, that we are not a bank, that we are not CDIC insured, and that we are not even Canadian.

This situation is of concern. As a Canadian, I worry about our ongoing problem about the corporate responsibility of our financial institutions versus their consumer activism. We need to be able to draw a line and look at issues like tied selling. I must admit I am a little discouraged as a Canadian to see the degree of the guerrilla tactics that go on.

Senator Oliver: What do you mean by "guerrilla tactics?"

Mr. Kuhlmann: For example, a branch manager in a financial institution deciding on his own that he will not transfer money to us over $3,000.

Senator Oliver: Do you have evidence of that?

Mr. Kuhlmann: Yes. We have to go back on that and fight those battles. We have tapes that get lost. We are in a clearing process; we basically issue tapes. We have to sell our services, and we have to buy them from one of the direct clearers. The direct clearer decides what gets paid, how it gets paid, and when it gets paid. If that person is on holidays, there are what we call administrative tactics. If someone is on holidays, tapes are late and payments do not get done.

We must deal with that. It is hard if you are trying to compete against Mother Bell and Mother Bell sets the rules. These are the things that consumers face every day when they call and identify their location and ask for a transfer of money to their account. We could say we would love to do it and send the verification through, but it does not get there. It gets "administratively lost."

You have to live with some of that. It may not be an issue here, but the committee needs to realize that there is a different thing going on on Main Street. It is difficult for consumers to deal with some of these frustrations.

Senator Oliver: I should like to ask about moving funds from one institution to another. You have alluded to this in your original presentation. Would it help at all if we had full functionality of electronic networks?

If I wanted to go to a bank machine that was owned by one of the big five and transfer some money to you so I could get into one of your higher interest rate certificates, how would I do that? Are there any obstacles to it? What does "full functionality" mean to you?

Mr. Kuhlmann: There are invisible pillars. We keep talking about breaking down the four pillars of the financial services industry. The invisible pillars are that you cannot move money between institutions.

Senator Oliver: Why?

Mr. Kuhlmann: You cannot transfer because someone will not turn on the switch. There are many reasons, but they all tend to be rationalizing.

Our financial service industry serves this country very well. What are we doing about moving forward into the next century? We have gone through some of these issues, and the world did not end. We got to using ATMs between one institution and another, and the world did not end.I am sure we can say the same for deposits. The MacKay task force made some recommendations on that.

We should be able to transfer money back and forth between linked accounts in this country. It is a convenience and service to consumers. The transfer can be done with security and control in a prudent manner.

The issue is how to define competition. We can open up these attitudes and approaches in retail and consumer banking by not putting two responsibilities on some of the financial players. These players are not only maintaining the infrastructure, which they have done quite well for the last 30 or 40 years, but are also becoming more competitive and independent. We must make that transition.

Senator Oliver: In your paper, you use the phrase "anti-competitive." When I hear that kind of language, it sounds like an abuse of power. If you are making an allegation of abuse of power, have you taken this to the competition bureau? Have you filed a complaint?

Mr. Kuhlmann: No, we have not filed a complaint.

Senator Oliver: Have any of the other institutions filed a complaint?

Mr. Kuhlmann: I am not aware of any.

Senator Oliver: Why?

Mr. Kuhlmann: Up to now, our corporate attitude is that it is part of the difficulty of operating in the marketplace. You would be interested in the nature of the consumer landscape.

Senator Oliver: We are policy makers here. One of the useful things you are noting is those pubic policy things that should be done to improve accessibility for all Canadians. What barriers should be specifically broken down electronically?

Mr. Kuhlmann: Electronically, I recommend that we increase the resources and independence of the Canadian Payment Association. That step would move things in the direction you desire.

There is a question about what institutions should compete over -- quality of service, convenience and price, or the ability to get the money or move the funds. An objective look would tell us that the ability to move and access the money is necessary in the system.

Senator Oliver: You told us you committed $500 million to build a retail network in Canada. You are kind of a "niche" bank now.

When we were in British Columbia, I saw one of your branches. It looked to me like it consisted of about 400 square feet where people can go in and buy some of your certificates at half a point over what we can get from the banks. What kind of a network are you talking about?

Mr. Kuhlmann: Actually, it is a cafe. We actually sell cappuccino to people who would like to come in and carry on a dialogue much like we are having this morning about banking. Canadians are interested in what is happening in banking, and they want to talk. They want to see what is new.

The cafe we have in Toronto is another meeting point. People come in and read the newspaper, get on the web, pick up materials, and sometimes talk about banking.

Senator Oliver: However, they do not buy certificates.

Mr. Kuhlmann: No, we do not transact any business in those locations. If you want to do something there, we make a phone available for you.

Senator Oliver: Tell me about the $500 million you have allocated for a retail network.

Mr. Kuhlmann: This is the investment that ING Group is making in terms of building the retail bank in Canada -- the increasing equity which we will need to invest over the next five years to build the bank.

As a direct bank, we offer commodity products at attractive prices with low spreads. The spreads are about 180 basis points compared to the general average basis point of 250. We have no fees or service charges.

The services are being delivered through telephone, mail and computer. It is interesting to note the number of rural Canadians who are quite happy to pick up the phone and be able to do a secured transaction with us. We are pleasantly surprised that our senior Canadians are quite capable of learning how to use a telephone. That was a surprising and positive development for us.

The proof is in the pudding. While we may not have a model which could be emulated by others as a worthwhile long-term model for Canada, we have had 100,000 customers sign up on the program. They have put over $1.2 billion in deposits with us over the last 15 months.

The Chairman: You are doing a little less than $100 million in business during a month. That is impressive.

Senator Joyal: You have been in the business of taking on the major banks, having come from abroad, and creaming the market, while the Canadian banks are striving to maintain their activities within Canada.

You mentioned that you have distributed more than $40 million in dividends. Could you tell us how your agreement works with your headquarters and the Canadian branch and how the profit that you make in Canada stays in Canada and which proportion is shifted abroad? It is important that you answer that question because you are a recurring target on it by the Canadian banks.

Mr. Kuhlmann: First of all, ING Direct is losing money and will lose money over five years as we invest this capital to become profitable. We are a stand-alone subsidiary as required by federal regulation.

In our case, the capital is funnelled into the Canadian entity. There are no proscribed guidelines for dividend payment. We pay Canadian taxes. As a matter of fact, 50 per cent of our account costs, which are $6.75 -- and, I mentioned this at a previous meeting -- go towards capital taxes, CDIC insurance, and payment charges. Employing Canadians, paying Canadian taxes, and paying our freight in the retail market speaks for itself. In that sense, from a corporate perspective, we do nothing more than operate as any other legal entity in Canada.

Senator Joyal: The argument that you are moving money out of Canada is not true, then?

Mr. Kuhlmann: No. As a matter of fact, all the money that we have raised here from savings accounts from Canadians is basically here in Canada. None of our assets are outside of Canada.

Senator Joyal: What will be your policy when you are profitable and have accumulated some profits on the margin of capital that you have in mind? You cannot lose money all the time. There will be a break-even day and then accruing profits.

Mr. Kuhlmann: I hope to survive to that day.

Senator Joyal: What is the policy of the ING group, for instance? Canada is not the only country where ING is active.

Mr. Kuhlmann: This falls within typical corporate rules. Looking at what I know from other countries where ING has invested, they remit dividends on the same sort of basis as other international banks. They reinvest, as we have done. The ING group is also represented here in Canada, and in many other businesses, and has been for over 40 years.

It is interesting to see some investment in Canada from the Netherlands trying this banking model that has some spin-off value for Canada. If this is successful, it will be used in other parts of the world. I can only see benefit for Canadians and our involvement in the U.S. market, in Europe, and in other places. ING is actually investing it here, which is a compliment to Canadians.

Senator Joyal: How do you answer to the nationalist argument that Canadians seem to be more open to making way for foreign capital but not to protecting Canadian-owned institutions?

Mr. Kuhlmann: As a Canadian, I have a much broader concept about Canada. We are a G-7 member. We are a trading country. I have a positive and broad vision for Canada. I believe Canada's strength and future relies on our ability to become globally competitive and to become the strong trading country that we can become. That has been our hallmark. It has been like that in other industries, and I do not see why this could not be the case here.

If anything, we have made it quite difficult for retail banks to open in Canada. It is tough for them. As a Canadian, I represent to my shareholders why there are still great opportunities in Canada. Although the rules are not that transparent and they must bear additional capital taxes, capital charges, and other rules, that is the price for entry into our country. I would argue that it has been more difficult for us than easier. We are not easy on new players.

Senator Joyal: When you say that it is difficult to establish a new retail network of branches throughout Canada, is the amount of money that you have committed to that objective, namely $500 million, a small amount of what you would like to have in terms of capacity to ensure that you are able to compete?

Mr. Kuhlmann: I would like to be able to answer that question, but I cannot. This has been sort of the plan concerning what we think is doable and possible.

On the other aspects of our businesses within the ING group, we would look at other opportunities in Canada. That has been the case with insurance, asset management, and corporate activities.

Senator Di Nino: In how many countries does ING operate outside of its home country in the Netherlands?

Mr. Kuhlmann: Do you mean in terms of retail banking?

Senator Di Nino: I am referring to any type of banking services.

Mr. Kuhlmann: We operate in 73 countries.

Senator Di Nino: In how many of those would you offer retail services?

Mr. Kuhlmann: We offer those services in three of them.

Senator Di Nino: Do most of your operations outside of the Netherlands involve wholesale banking as opposed to retail banking?

Mr. Kuhlmann: No. If you look at our group statistics, about 65 per cent of our worldwide activities are actually insurance. Asset management, corporate banking and commercial banking represent about 20 to 25 per cent of the group.

Senator Di Nino: I am trying to determine how other countries treat foreign banks -- at least from your own experience -- as a comparison to the Canadian operation. How do you find it in comparison to the other countries in which you operate such as the United States or New Zealand or Germany?

Mr. Kuhlmann: Recently, we were in the formation of a plan to start an operation in Spain much like we are doing here in Canada. It was a three-month process. It was pretty easy compared to the year that it took us here to get through the paperwork. The other problem is that the capital requirements are a lot lower in Spain, for example, than they are here. As Canadians, we are competing in a global market, and we are competing for capital and for resources.

Senator Di Nino: You are saying that the Canadian market is much tougher to break into, are you?

Mr. Kuhlmann: Yes.

Senator Di Nino: Is that because of the monopolistic -- that is my word, not yours -- position that the major banks have taken in this country?

Mr. Kuhlmann: It is structural issues more than the banks. The banks are doing what they need to do. It is more about the infrastructure: the way we do the regulation, the way we set the taxes, and the way we set up the payment system and the clearing system.

There is a trickle-down affect. The better we do the infrastructure, the more it would trickle down into other areas. Fortunately for you, ING Direct is sort of at the heart of one of the last holy places in the financial landscape, namely, the average savings account for Main-Street Canadians. You cannot get any better spreads than the ones down there.

Senator Di Nino: I should like to ask about your proposed retail operation. What exactly are you trying to accomplish? You said that you have available $500 million to create a retail operation in this country. Other Schedule B banks have what appear to be successful operations in Canada on the retail sector. What is the difference between your proposed operation and that of BCI or some of the others?

Mr. Kuhlmann: Many of them have tried and gone to what we call niches. We are referred to as a niche. We tend to think of ourselves as more Main Street, however, since we have a commodity product like savings accounts and straight consumer loans. We do not specialize. For instance, you cannot negotiate pricing with us. We have one price for all. It does not matter whether you have a small or a large amount of money. We think we are very much into the average Canadian household. We do not specialize on a geographic area, on a certain kind of product, on a certain demographic, or on an income level. We are very much a commodity with a vanilla-type approach to what I call the broad retail market. Some people specialize in credit cards and certain other types of businesses. However, we do not do that.

Senator Di Nino: Your wish would be to create a network of branches where a variety of competitive services to the major banks would be offered in the same manner. If you do not have any competitive secrets to divulge, are you suggesting something different?

Mr. Kuhlmann: We are definitely walking to and beating on a different drum. That is part of the reason why we have such controversy, which probably makes for a healthy debate.

I can tell you, for instance, that the world in the future is a little different. It is quite exciting. For example, there is our strategic relationship with Canadian Tire. Canadian Tire is a retailer coast to coast. It has one of the strongest brands in Canada. We are very proud of them. We forged a relationship with them and will be not only offering services through them but also building an ATM network with them. You will be able to see our high-interest-rate savings accounts and our very low, every-day priced loans -- not the introductory type, but the every-day priced loans available through Canadian Tire.

I think that is an interesting sort of paradigm for the future.

Senator Di Nino: This is part of your retail strategy that you are putting into place.

Mr. Kuhlmann: Yes.

Senator Di Nino: That is going forth?

Mr. Kuhlmann: Absolutely.

Senator Di Nino: Is it your opinion that the MacKay report recommendations will help you complete that strategy? What changes do you think should be made to the MacKay report recommendations to help you accomplish that?

Mr. Kuhlmann: We certainly applaud many of the things in the MacKay report. Everyone in this country talks about more and better competition. The real question is how it should be shaped as we go forward.

The only shortcomings that we see are the ones upon which I tried to focus, the infrastructure ones. To me, it is a blueprint. Without the blueprint, the MacKay report does not sit on any real foundation.

Senator Di Nino: I am not sure I understand what you mean by "the infrastructure" or "the blueprint." We need more specifics. Unfortunately, we do not have the time to explore that area this morning. I would like to get my own mind straight and put your thoughts together with the thoughts of so many others who have appeared before us.We hope to make some recommendations that will be useful to you and to Canadian consumers.

I believe you said you are at about $1.2 billion?

Mr. Kuhlmann: Yes.

Senator Di Nino: What kinds of assets does that amount represent? Where do you put your money?

Mr. Kuhlmann: Canadian securities, corporate, government, and consumer loans. Much of it is going out to consumer loans.

Senator Di Nino: How much would be in consumer loans, small business, and securities? Can you give me some statistics?

Mr. Kuhlmann: I cannot give you a breakdown.

Senator Di Nino: Would you say you have attempted to serve that small business sector that everyone claims is underserved?

Mr. Kuhlmann: We are not in the corporate or small business market. That is not our focus.

The definition is interesting, senator. There was a time when I was in the banking business, and small business meant $1 million and up. We now have something that I call micro-business. It is interesting to note the demand we get from what I call self-employed people or husband-and-wife teams starting small businesses. They get loans from us, and they are using them to run their businesses. We do loans up to $250,000. Our average loan on an automated one-hour approval is $50,000. We will go beyond that within a one-day turnaround for $100,000. We only do unsecured loans; we will not do secured loans.

Senator Di Nino: You do not know what percentage of your portfolio that would be.

Mr. Kuhlmann: No, but we do know there is a huge need and appetite for those kinds of loans, and the rate is an important issue.

Senator Di Nino: Some of the Schedule B banks have suggested that the charge of withholding tax is somewhat discriminatory. I would like a comment from you on that. As well, would you like to be able to sell insurance and do leasing of small vehicles if the rules were changed?

Mr. Kuhlmann: On the withholding tax, since we are not really in that business, it is not an issue. As a banker, I do not see it as a big issue. I know there are some financial needs for that. The more we harmonize some of our tax-related issues, especially to the U.S., the more helpful it would be. That is a trend of where the capital flows go.

On the other side, in terms of access, we do a lot of insurance. We do not do it through this entity but through another entity. It is not a requirement for us. It is nothing we have on the boards. It is on the plans.

However, one of the problems that we have, and this is why this difficult task that you have at hand is not to be underestimated, is that there seems to be a lot of talk about opening access and merging things, and I think there is a better focus on transition. Go back to the mortgage market in the early 1970s. Once you allow access, the market is kind of taken up, and nothing really changes. What we need in this country are the changes underneath.

We need to be able to give Canadians a legal right to a bank account. Banking may be a privilege, but if you talk to Canadian consumers, banks tell consumers that banking with them is a privilege. They need a right. We need to sort out an electronic signature. Basically we need to provide Canadians with the ability to get at the kind of services that would be at least competitive. If you see the heartaches that I see every day, you would say that we could do something about this problem. We could create more competition in the retail market.

Senator Callbeck: I have several brief questions, and the first is on the concept of the holding company that was discussed in the MacKay report. ING is certainly involved with many companies in Canada that are involved in the financial area. I am wondering if that concept of a holding company interests you at all.

Mr. Kuhlmann: Yes, it has some ease to it. It does create one question, though, and that is the issue of regulation. I worry about OSFI attempting to struggle with the insurance arm and the banking arm. We are now proposing, through the Ministry of Finance, to become an international leader in conglomerates around the world. I worry that there will not be enough resources for continuity and supervision on the holding company concept. I think that is a tool that works well in other countries, and it could work well here.

Senator Callbeck: In your brief, you mentioned that your presence in Canada has benefited many Canadians who do not bank with you. You went on to talk about financial institutions increasing their rates and waiving service fees. What particular service fees are you talking about?

Mr. Kuhlmann: You mean from the banks or from us? We have no service charges or fees, as you know.

Senator Callbeck: What service fees have been dropped to compete with you?

Mr. Kuhlmann: The typical story I would hear in the call centre in the morning is someone calls up and says, "Well, I just went to my bank and made out a cheque for you. When they found out it was made out to ING Direct, they asked, `What rate were you offering?'" Everyone knows what our rate is because even the employees get the same rate. I have the same rate. There is no difference in rate. So then the bank matches the rate and increases the rate on the deposit. Then they say, "We might as well keep it here." We have become an interesting little bargaining chip.

I would love to be able to quantify that for the committee. I would probably get an Order of Canada for it. That is what happens in the marketplace, and that is what happens in retail businesses. Someone matches the price, and the consumer negotiates and gets the better deal. Of course, we would have liked them to have brought the amount over.

The anecdotal story you would like most is that of a retired widow who went to a rural branch in Ontario and did the very same thing. She made out a cheque to ING and wanted to make sure she could send this over. The counter person said, "Well, you shouldn't really move that money. Why not keep it with us. Let me bring the branch manager over." The manager came over and looked at the cheque and said, "We would like to match the rate you would get over at ING, but it is only for $14,000. If your amount was $50,000, we could give you a much better rate." That woman actually came to us, drove in her car, landed at my doorstep, and said, "I am moving this over out of a point of principle, and I am telling everyone at my social club that they are all moving their money over."

When you work in this battlefield, sometimes you win and sometimes you lose, but it is good, healthy competition.

The Chairman: Thank you, Mr. Kuhlmann, for a very helpful and most interesting presentation.

Senators, our next witness is Mr. Ian Gillespie, President and Chief Executive Officer of the Export Development Corporation.

Senator Donald H. Oliver (Acting Chairman) in the Chair.

The Acting Chairman: Welcome to the Senate Banking Committee. We have circulated a copy of the notes you will be using for your presentation today. Please proceed.

Mr. Ian Gillespie, President and Chief Executive Officer, Export Development Corporation: Honourable senators, I am delighted to have the opportunity to present our views on the Report of the Task Force on the Future of the Canadian Financial Services sector vis-à-vis some of the issues we believe will be germane to helping build sustainable wealth and prosperity in Canada.

I have circulated a set of prepared remarks which, with your permission, I would ask be considered part of the record. I will not speak directly to those particular remarks. However, what I should like to do is summarize, over the course of the next few minutes, some of the key messages that we think are particularly important.

Very briefly, let me just say that EDC's role and mandate is dedicated to enhancing Canada's trade competitiveness by providing the essential trade-related financial services which every company needs to pursue business beyond our borders.

What differentiates EDC from other financial institutions in this country is that we have the largest pool of trade financing talent under one roof. We have the capacity to take risk in 200 countries around the globe. Last year we did business in 145 of those markets on behalf of our Canadian customers. We have supported in excess of $100 billion in Canadian exports and foreign investments in the past five years. We have done all that with a paid-in capital base of less than $1 billion. We are expecting to do as much again in the next three years.

EDC operates as a commercial financial institution, but as an export maximizer, not as a profit maximizer. This year we expect to achieve a business volume target of approximately $32 billion in support of our more than 4,000 customers, more than 85 per cent of which are small and medium-sized enterprises. In that sense, small business is big business for EDC.

In very simple terms, the corporate plan for EDC for this year is to do more business with more customers and to generate an adequate rate of return to sustain our capital and support future growth. This is important because Canada is a trading nation. Exports represent about 43 per cent of GDP, the highest in the G-7 and close to four times the U.S. level.

Growth through exports will play a very essential role in Canada's future prosperity. Therefore, it is important to create a competitive advantage for Canada in trade. However, as evidenced by the Conference Board of Canada's recent publication, Performance and Potential, 1998, Canada is also vulnerable in the long term to the forces of globalization unless we continue to enhance Canada's trade competitiveness.

Canadian companies are small on the world stage. Canada has relatively few transnational corporations. We are slipping somewhat in terms of our growth of per capita income and productivity relative to our major trading partners. R&D in Canada as a percentage is lower than the level you would find in the U.S., Germany and Japan. Both incoming foreign direct investment and outgoing will need to be enhanced in the future.

The debate around the future of Canadian financial services sector must fully address how best to strengthen the ability of Canadian companies to compete globally and how best to create competitive advantages for Canada which in turn will produce the necessary employment and wealth-generating opportunities and the proper social infrastructure for Canadians now and into the future.

Our experience is that few financial institutions are dedicated to supporting the globalization of Canadian business as a priority focus. Therefore, they may be falling short of the strategic expectations of their customers. The recent turmoil in Asia and elsewhere in the world may only exacerbate this problem. I do not have to tell you that that turmoil is creating some fairly serious liquidity problems internationally.

There is much to praise in the recommendations of the task force and the desire to see more competition introduced. I will not take your time by going into those areas any further. However, from our perspective, the MacKay report makes virtually no mention of export and investment financing or of the critical roles played by the federal financial intermediaries, EDC, FCC, BDC and CCC. This absence means that the MacKay report did not address many of the trade and investment issues critical to Canadian wealth creation and germane to EDC's mandate. That omission is an important oversight, given that trade is one of the most dynamic parts of the Canadian economy. Canada's capacity to grow will require mobilizing the financial resources to support the international initiatives of Canadian companies.

The principal strategies of the banks in Canada presently are not focused on helping Canadian companies to go global. Their strategies seem more focused on attaining a stronger, competitive, North American position for the banks through the use of technology in commodity-driven businesses such as fixed-income trading, currency trading, underwriting or perhaps even some consumer banking services.

The proposed mergers do not appear to be about strategic issues affecting Canadian wealth creation, except perhaps in the narrower sense, or supporting the growing needs of small business or being able to serve more effectively Canadian companies operating globally.

The merger debate has quite rightly focused on SME financing as a central issue. The issue of SME vulnerability is a real one. SMEs are major wealth and job creators. They embody the entrepreneurial spirit of this country. Many are in the knowledge-based industry sector which is key to addressing our R&D vulnerability and to fostering the climate which keeps the most-heavily-invested-in and subsidized brains in this country.

It is not clear that greater concentration of banks in Canada will create more financing capacity for Canadian exporters. Indeed, the intra-Canada mergers could even exacerbate the problems of adequate support to exporters, especially to SMEs, the most vulnerable group as confirmed by a recent survey conducted by the Alliance of Manufacturers and Exporters of Canada and by the Canadian Federation of Independence Business. SMEs will aim to reduce their overhead costs by rationalizing some of their service delivery and by focusing their attention on global, transnational corporations and the international global marketplace.

It therefore appears that trade and investment finance is, and will remain, a niche market for Canadian financial institutions, not a core business. We need to make trade in investment finance in Canada part of Canada's competitive advantage and one of our key success factors.

It is important to note for the committee that EDC and Canadian financial institutions are working more closely and extensively than I have ever seen in my 20 years with EDC.

EDC's risk-management capability is critical to strengthening the capacity of financial institutions in Canada to provide working capital. This underpins short-term trade and medium- and long-term financing for capital goods and projects.

We estimate that we support banks directly and indirectly to the tune of about $10 billion annually, not counting our extensive treasury relationships for funding for foreign exchange and so on. We are now working very closely with the banks with regard to some of our generic products, such as accounts receivable insurance, where we provide direction to pay to the banks, and documentary credit insurance, where we insure the letters of credit of international banks on behalf of Canadian banks.

We provide political-risk insurance to Canadian banks in order to cover them against the risks of inconvertibility, war expropriation, et cetera. We also provide bid and performance security guarantees.

We work with the banks to provide solutions specifically dedicated to small and medium-sized enterprises, such as our important partnership with Northstar Trade Finance Capital Inc., which is, in part, jointly owned by the Royal Bank and the Bank of Montreal. It provides finance for smaller transactions in the medium-term area.

We provide something called the Master Accounts Guarantee Program -- MARG, for short -- to the banks. It was designed to increase the margining of foreign receivables in order to allow the banks to provide more working capital to SMEs. For a variety of reasons, we have been disappointed that the banks have not taken up that product to a greater extent.

A legislative review is now underway. It was announced in the last few days by Minister Marchi. It is going on in parallel with the MacKay report. I think it will be timely in that it will provide an opportunity to review the issues related to trade finance and to confirm the importance of EDC's mandate within Canada's export and finance system. I will not go into those particular issues, although I would be happy to address them in answer to any of your questions.

In conclusion, the EDC cannot meet the needs of Canadian businesses alone in the global marketplace. We need a dynamic, competitive and focused financial services sector, which is truly part of Team Canada in all its dimensions, and which will dedicate the necessary resources to fund the entrepreneurial spirit, to create the opportunities, jobs and wealth which underpin the social infrastructure and which ultimately define the quality of life in this country like no other. We need to ensure that Canadian consumers and companies have all the necessary ingredients to grow and prosper domestically and internationally. The financial services sector is vital and unique in that regard, and obviously credit capacity is our lifeblood.

The Acting Chairman: Did you make a presentation or file a brief to the MacKay task force?

Mr. Gillespie: No.

The Acting Chairman: You and others have told us that you, the FCC and other Crown institutions have not really been referred to at all in the MacKay task force report, and that this is an oversight. If you were writing the report today, what would you have put in it with regard to harmonizing your activities with those of other financial institutions in Canada, such as banks, insurance companies and trust companies?

Mr. Gillespie: The important issue is that the capacity will be made available to Canadian companies.

In my mind, the issue around the question of mergers is very much the issue of concentration within Canada. It is perhaps interesting and indeed ironic that if Canadian banks had chosen foreign dance partners, we may not be having the same debate in Canada. The issue is one of creating capacity for Canadian companies, and I am just concerned that the eye may not be focused on the ball as they get into becoming a wholesale global bank. Therefore, Canadian small and medium-sized enterprises will be left vulnerable to a lack of capacity as this rationalization goes ahead. It is important that the banks demonstrate that they will not only provide but enhance the capacity to this important sector and to the larger businesses.

We had an interesting conference not long ago on public-private infrastructure globally and the need to mobilize total finance solutions for Canadian companies, even the marquee names, which are small on the Canadian stage.

The Acting Chairman: My question was a little different. I will restate it.

Since you were not referred to in the MacKay task force report in a major way, and because you are doing major export financing for Canadian companies, if you were writing the report today, what things would you like to see in that report, from a public policy point of view, to help you in doing your job in the new millennium and in conjunction with banks and other financial institutions? How would you like to see those activities harmonized?

Mr. Gillespie: It would be important for the task force to recognize the vital roles played by the federal financial institutions, and the need to continue to strengthen those institutions. They are part of the capacity I talked about.

Banks, by themselves, will not operate in 200 markets of the world. There are some issues of skill sets; there are some issues of capacity. Therefore, the issue is how to strengthen the federal financial institutions to provide the necessary capacity, not in any self-serving way but in a stronger leadership role, that will allow them to act as a catalyst, in part, to mobilize those necessary resources from the private sector so that we have a good partnership to mobilize capacity.

Senator Kelleher: When I was associated with the EDC about 10 years ago, we had the same problem. There was an apparent lack of cooperation between the major banks and the EDC. As a matter of fact, there was a certain amount of hostility by the large banks towards the activities of the EDC. The EDC was accused of plucking off the cream and not leaving too much for the banks in certain areas. This has been recognized by both sides, and I understand that both the EDC and the large banks have worked on this problem in an attempt to correct it. What actions have been taken by both sides to correct this problem?

Since the MacKay report did not comment on this -- and I agree that it is a very important area -- it would be helpful if the EDC could detail for us in a letter any suggestions on obtaining more cooperation from the large banks in this particular area, or specific things they are not doing or could do a lot better than they are doing now.

The Acting Chairman: Would you be able to write such a letter? Could we have it within a week?

Mr. Gillespie: We could certainly outline a number of areas where we are working with the banks and areas where we would like to see a greater take-up on the part of the banks. I would be pleased to do that.

With respect to Senator Kelleher's first question, the relationship with the Canadian banks is far better than it has ever been, even though the EDC has grown quite considerably since the time you were responsible for it. The banks have also recognized that the relationship is no longer EDC versus the trade finance departments of the Canadian banks but, rather, is a much broader one involving their corporate banking and the project finance sides, as well as the small and medium-sized business activities of the banks. Beyond that, it also involves treasury relationships, such as, for example, securing the necessary foreign exchange or derivatives and so on. The extent of our relationships with the banks is far bigger. We have both come to realize that it is not about who gets the crumbs on the plate and who gets the pie but, rather, that if we work together, there are enormous opportunities for Canadian businesses globally. How do we put together our combined resources to leverage the capacity that is available? In that regard, EDC is taking a much stronger leadership role in trying to mobilize those resources.

On the small and medium-sized end of the market, that role is difficult and challenging as we try to bring some of that necessary capacity to bear. We certainly do not have the distribution capability across the country to be able to reach into the smaller towns. However, as you well know, you can lead a horse to water but you cannot make it drink.

Those are some of the difficulties. The banks have so many different products for the various account managers to offer that those programs tend to get lost. In terms of programs listed from A to Z, there is some slippage.

Senator Kelleher: One of the many things that EDC has to offer, and which the banks cannot offer, is their expertise in country risk assessments. The EDC is found around the world whereas our Canadian banks are not. They have the expertise there that the banks do not possess. The banks are often reluctant to get involved in countries where they are not located, understandably. They appear to have a certain reluctance to work closely with EDC to combine their money with the expertise of the EDC in country risk assessment. It is not because EDC has faulty country risk assessments. They have an exemplary record in that area. This is one area where I feel that both sides could work more closely together. However, it takes two to tango.

The Acting Chairman: Do you agree with that assessment?

Mr. Gillespie: Yes, very much so. The way to create a competitive advantage in this area is by having the knowledge to which Senator Kelleher referred. I think we have that. We are also trying to improve our knowledge quite considerably. We now have a representative in Beijing. We have talked to the minister and our board about expanding the number of EDC representatives abroad because that is part of what will help to create opportunities for Canadian companies.

The other dimensions of the competitive advantage to which I referred are such things as having the skills and the largest pool of trade finance talent under one roof, our coverage, our capacity to take risk, and, ultimately, the service that EDC provides. You have been provided with some information regarding the kind of customer satisfaction that EDC has enjoyed over the last number of years.

Senator Di Nino: For the purposes of those who are watching or those who must prepare a report, I would like you to be more specific about the kinds of relationships you are talking about. Obviously, the one that Senator Kelleher mentioned is important. How else, specifically, are you looking for cooperation and participation with the major banks and other entities? Also, who are those other entities?

Mr. Gillespie: There are two areas that I should like to mention briefly. First, we have created an important partnership with Northstar Trade Finance, which was based on the entrepreneurial spirit of an individual named Scott Shepherd, who previously worked at EDC and then went off on his own. With his creativity and ability, he was able to put together a small company. This was accomplished despite the "doubting Thomases" -- some of the financial institutions in this country. He was also able to attract the interest of the Bank of Montreal at the outset and, more recently, the Royal Bank, to create this institution. He has been able to provide something in excess of $100 million a year in finance for smaller transactions in the medium-term area that are ultimately supported and insured by EDC.

Senator Di Nino: This is always related to trade.

Mr. Gillespie: This is related to trade. That is one dimension. There are some additional similar opportunities to create partnerships with the private sector and use EDC's risk capacity to leverage private-sector resources to help smaller Canadian companies.

At the other end of the spectrum, we are looking to create some partnerships with Canadian financial institutions, ideally to provide total finance solutions for bigger projects around the world. One of the difficulties is that Canadian companies, whether they are involved in engineering or in telecom or in other sectors, tend to be small on the world stage. They must mobilize various goods and services from around the world. EDC, because of its obviously Canadian focus and interest in benefits to Canada, may not be able to support or underwrite the entire project. It may be a refinery project somewhere in the world, but only part of it may be actually coming from Canada. Therefore, EDC may only have part of the financing solution. In many cases, Canadian financial institutions will not provide the balance of the financing, and that has put the burden back on the Canadian companies to seek that balance from around the world. It is a big burden when they do not have a sufficiently large balance sheet to be able to provide the vendor finance themselves. We have been discussing with various financial institutions the idea of forming some kind of alliance, whose actual structure or form is somewhat unclear, in order to provide the total financial solutions right up front. That would then relieve the Canadian companies of having to put the financing together themselves, and allow them to concentrate on the commercial elements. This will be increasingly important as Canadian companies become involved in the larger public-private infrastructure projects.

Senator Di Nino: Would EDC possibly be providing some sort of insurance as well, as some sort of guarantee? What could your role be in that area?

Mr. Gillespie: Our role might be to provide loans or to provide equity in order to be able to underwrite a larger project. We are not talking about guaranteeing financial institutions. We want them to come to the table with their risk capacity. We do not want the EDC taking all the risk and the banks getting a free ride. We want to work with people who understand this business, because it is higher risk. They will bring the capacity and we will put the combined capacity together to provide that total finance solution. That could involve insurance products, political risk insurance, loans, or equity. The goal would be to create an alliance or an institution that would achieve this ultimate goal.

Senator Di Nino: Would you also have a role as some sort of early warning system if problems seem to be on the horizon?

Mr. Gillespie: I am not quite sure what you mean by that.

Senator Di Nino: The Asian flu is a great example. We all know that the EDC has had involvement in that part of the world over a number of years.

Do you see a role for the EDC, because of your wider presence in many countries, in providing Canadian investors and Canadian financial institutions early warnings about potential financial earthquakes in the future?

Mr. Gillespie: I might express it a little differently. Canadian financial institutions take great comfort in the facts that we are in these markets and that we do have the knowledge to which Senator Kelleher referred. Therefore, our presence is an important demonstration of our commitment to the market. That will, in many cases, encourage them to try to stay in for the longer term as opposed to being somewhat more fickle as economic circumstances change. EDC is able to take a longer-term perspective and ride out some of the inevitable cycles that occur. The strength, backing, knowledge, and expertise of the shareholder provide a great value.

The Acting Chairman: Thank you for coming today and making a succinct and helpful presentation.

Senator Michael Kirby (Chairman) in the Chair.

The Chairman: Our next witnesses will be from the Canadian Federation of Independent Business. Please proceed.

Ms Catherine S. Swift, President and Chief Executive Officer, Canadian Federation of Independent Business: Honourable senators, the CFIB represents the small business community in Canada. Currently, we have over 90,000 members, in every sector and region of the country. Financing issues are enormously important to our members. We have been very pleased with the process surrounding the MacKay task force and its report. It has shed a great deal of light on some of those issues, the most light that we have ever seen in our 28-year history of dealing with them. Some very interesting information has been brought out.

The recommendations in the report were focused on such areas as job creation, economic growth and innovation. Our sector is increasingly recognized as something of a job creation machine. We do not see this trend abating. We expect that, within the labour force, the self-employed and small business segments will continue to grow at an ever-faster pace. Capital issues, on both the debt and equity sides, are enormously important to this trend.

One of the things we agreed with most strongly in the MacKay report, and which was a theme running through it, was the recognition of insufficient competition in the provision of financing services to the small-business sector. That is a problem we have focused on for a number of years, and we were happy to see it documented and affirmed within the MacKay report.

We know it is part of your mandate to consider visions of the future of the financial services sector, but what we want to touch on briefly today is what we believe to be the present context of financial services and banking services for small business.

Access to financing generally is an ongoing challenge for small businesses. We have documented this time and time again. We feel as if we are repeating ourselves all the time. However, if we saw some concerted action on this problem, we would not feel as compelled to repeat ourselves.

The last recession was pretty instructive. We saw a severe restriction of financing to the small-business sector. Indeed, we believe that the recession was worsened by excessive restriction of financing to small businesses. We have found subsequently that it has taken an awfully long time for lending levels to the small-firm sector to get back to where they were before the recession. The banks tended to increase their lending to larger businesses, even during the recession. When we studied the data, we saw that it was only in 1998 that loan levels to the small-firm sector actually reached their pre-recession peaks. That restriction cannot be justified on the basis of difficult economic conditions alone.

Over the decades, we have been disturbed by the number of business owners who have told us: "I never want to need a bank again since I had such unpleasant experiences, so I am not going to expand my business. I am not going to make that investment because it would mean becoming beholden to some other lender again, and I do not want to get into that situation." As people forego what could be positive additions to the economy because they do not want to link up with a financial institution, the result is lost-opportunity costs for the Canadian economy.

We would certainly be the first to acknowledge that the small-firm sector is not an easy one to lend to. It is quite challenging. It takes special expertise. The major banks have taken quite a while to understand the needs of the market, and they are facing new challenges with the knowledge-based sector and some other sub-segments of the market.

There is a problem with placing too much reliance on new competition in the financial services or banking sector. Given that the institutions that have been around for a long time have taken quite a while to come up the learning curve, we cannot really expect new players to be coming up that learning curve in a short period of time.

We do a comprehensive banking survey roughly once every three years to gauge what is happening on an ongoing basis. In our last survey in 1997, approximately 9 per cent of our members told us that they had a "choice" of one bank in their community, and another 13 per cent had one additional alternative. In other words, a fairly significant chunk of the small-business market out there had only one or two options.

We also found that where there are only one or two options for small firms, they consistently face higher costs of financing, more difficulty accessing credit, higher service charges, higher collateral demands, and so on. It is not simply that they do not have choice; without competition, they pay more. That is a rudimentary concept. Naturally, for this key reason, we find the notion of mergers problematic. It would restrict competition and reduce choice even further for the small-business community.

The situation varies across the country. We find there are some options to the big five banks in some regional markets. Ontario is probably the worst off. There really is not a developed second tier in commercial banking in Ontario. In other provinces, the situation is by no means rosy, but Ontario has the greatest problem in this area. If the proposed mergers are permitted to go through, we simply do not see alternate forms of competition springing up very quickly.

We should like to refer back to your mandate and tell you how we see the future of the financial services industry in Canada. We find some of the Australian experience rather interesting. Their approach was that mergers were not permitted to go forward until they actually saw proof of functioning competition. The industry will change no matter what happens, as every industry is changing quite dramatically right now, but we want to see proof of competition before further consolidation is allowed to take place.

Probably within five to ten years, we will start to see some other viable players arise to serve the small-business market. At this time, we would put most confidence in the expectation that they will come from the credit union movement, if we can get some kind of national evolution of that part of the lending community. Many credit unions currently lend to the small-business sector in a very limited way. Some are notably more penetrated and more successful in that sector. Because of the community orientation of that group, there is considerable potential for them to evolve into a true competitor to the banks. They are certainly not at that level now, and it will not happen overnight.

Much emphasis has been put on foreign banks. They are already here and their services in some fairly narrow niches of the small-business market will probably grow. However, we do not see wholesale entry of foreign banks, or community banks, for that matter, into the small-firm market, certainly not quickly nor on a full-service basis.

Even if some of the elements in the MacKay report that would encourage greater competition were permitted, and if mergers were disallowed, we would still see domination by the five major Canadian chartered banks in the Canadian market. The main reason for that is that they are so well established at present that they would be very difficult to knock out of any market should they decide to concentrate on it.

Generally speaking, the majority of our members deal with one institution for most of their financial services. As a result, providing those services to them ends up being quite a profitable business for the chartered banks. Therefore, we certainly do not see a major reduction of the big five's small-business market share in the short term.

We should like to give you some feedback on some of the recommendations within the MacKay report. We certainly agree with the task force's emphasis on the vital role of small- and medium-sized enterprises in the Canadian economy. We agree there is a need for more competition and a greater responsiveness in the financial services industry to small-business issues and consumer issues generally. We disagree that alternative forms of competition can be as easily achieved as MacKay sometimes seems to imply.

One must always keep in mind that small businesses need access to full-service banking outlets. Some of the alternatives we have heard presented, such as electronic banking or some kind of travelling banker alternative, are inadequate, in our view, at least at present. Although those alternatives may well serve certain portions of the market, our members still need the physical presence of the branch.

We agree with the MacKay finding that Canadian banks are held to a higher standard, and they have indeed had a lot of protection and concessions over time. As a result, we do not really have a true private-sector type of market-driven entity operating here, but there are certain obligations that are expected in return on the part of the major chartered banks.

One aspect of the MacKay report with which we strongly disagree is that of allowing banks further entry into the insurance and leasing businesses. Our members have consistently been opposed to this, and much of that opposition has been based on the fear of extending bank power. The banks already have considerable ability to enter into the insurance market, for example, and the notion of extending that further creates some concern from the small-business standpoint.

Although some have argued that mergers should go ahead immediately so that smaller players can come in and pick up branch outlets or staff that are divested by the merging banks, we wonder about how that would work in practice. We imagine that any large bank trying to consolidate will want to hold on to its best locations and its best human and physical assets. As a result, we wonder how efficient and effective these potential competitors or smaller institutions may be, using the cast-offs of the major banks.

Despite our concerns over how quickly or effectively real competitive alternatives to the big five may set up, we are certainly pro competition. We think that true competition is the only way to go and the only way that we will ever see a well-served small-business market, not to mention other segments of the market. We are therefore very supportive of the recommendations in the MacKay report that would permit new and more effective competition.

We oppose further concentration and mergers until we see actual competition taking place.

Some of the specific MacKay recommendations that we support include: the need for greater competition; controlling the incidence of account manager turnover, a constant bane of the small-business owners' existence that has not become any better in 20 years since we have been tracking it; reinstituting some credit decision-making authority at local levels instead of the increased centralization we have seen; pricing for risk where it is merited; and better value-for-price relationships on the complete range of banking services.

We are very supportive of the collection of further information on the small-business lending area. Over the last few years, the banks have been, by request, providing that information. It has been useful to everyone in understanding the market better.

We are also in favour of accountability measures for communities and greater access for small business to equity financing in addition to the traditional debt financing.

Unfortunately, much of the review, which has been very comprehensive of the financial services sector, has been overtaken by the merger issue because of the two proposed mergers that have been announced to date. We wonder how much the merger proposals have accelerated the pace of the discussion and perhaps detracted from many of the other important considerations that should be brought to bear on the entire issue of financing services.

As a result, bank mergers have, of necessity, become the most important issue for our members, and we have certainly been hearing from them on it for the last few months. In our most recent poll on this issue, over 68 per cent of our members were opposed to the mergers, and that was up from approximately 64 per cent a while earlier. The very smallest of firms, those with less than five employees, which comprise about half our members and proportionately even more of the Canadian small-business sector, are about 75 per cent opposed. These smallest firms are the ones that typically have the most difficulty getting financing and they are the most strongly opposed to the mergers.

In conclusion, we do not believe the mergers are necessary. We do not think they will help with economic development and jobs, nor have we bought the banks' argument that they are needed because of efficiency and competitiveness considerations. In fact, the evidence is very spotty on those issues, as many have concluded, including the MacKay task force.

We also believe the timing is very unfortunate right now. We have, of course, a number of uncertain economic factors on the horizon. We have the year 2000 millennium bug problem looming, and we feel that adding bank mergers to this mix over the next few years would really be asking for trouble.

Finally, we believe that the Canadian government should have the courage to protect consumers and small business, and take an approach similar to that which Australia took, which is to say we wish to see the competition first before we permit further industry consolidation. We also add that any merger decision, once it is made, will be irreversible.

We are happy to be here today to be part of this process because it is extremely important to take the time to get this right.

The Chairman: My question is related to your last two or three minutes, and it refers to page 5 of your report, which in turn touches on recommendations 102, 103 and 104 of the MacKay report. Let me deal first with the issues of account manager turnover and reinstituting credit decision-making authority at the local level.

I understand absolutely why you argue for those. Am I right in saying -- and MacKay would appear to take the same position I am about to take -- that those two issues cannot be dealt with by public policy? One issue is essentially a human resource issue within the institutions; namely, they should not turn account managers over as frequently as they do. Where credit decisions are made is obviously a management decision, not a public policy decision. I suppose that is why MacKay in both cases urges banks to do something as opposed to having governments do something. Would you agree with that?

Ms Swift: I would agree. There is no question about it. We have had many discussions along those lines over the years with the various financial institutions.

The Chairman: You have also had discussions on that subject with this committee in the past.

Ms Swift: Yes. Everyone agrees it is a problem but we wonder why we have we not seen any movement on this issue. Rather, on the issue of centralization of decision-making, we have seen the reverse. Much of the problem is as a result of the automation of financing decisions, the trend toward more credit scoring, and the like, which enhance centralization. There are other developments which might not even have been conscious policy decisions but which just happened by association.

The account manager issue is one we find particularly vexing. All of the major banks we have met with have agreed that something should be done about it, but clearly it is not a priority for them because nothing has been done about it in a very long time. It would be very difficult to deal with the problem in a public policy context.

The Chairman: My second question deals with pricing for risk. I noticed you were quite careful to say there should be pricing for risk "where merited." We have asked the banks about this, and here is the dilemma. It is quite clear that loans in Canada are essentially constrained by the price rather than by risk, whereas in the U.S., if a loan is extremely risky, the borrower can pay an extremely high interest rate.

In Canada, all financial institutions that lend money seem not to want to go above a particular interest rate because they are afraid of the bad public relations and the political flak that would ensue. When we see the reactions to interest rates on other products, one can understand why they are gun shy.

What would be the reaction of your group if financial institutions started to price loans by risk? When I see the words "where merited," I find it difficult to imagine a situation where your members would conclude that prime plus seven was merited. I wonder if "where merited" is not exactly the sort of language that makes everyone gun shy. I would love to be able to deal with the problem; I just do not know how.

Mr. Brien G. Gray, Senior Vice-President, Policy and Provincial Affairs, Canadian Federation of Independent Business: We have discussed this issue for a long time. Our discussions with the banking community began in the middle of the recession when we really had a serious problem in this country.

The Chairman: A serious problem of access?

Mr. Gray: Access to any kind of debt capital. The issue of pricing for risk was thrown out for discussion, and I was asked the very same questions you are asking now: What do the markets say? What would be the reality? Frankly, many small-business owners cannot get any form of financing right now at any cost. The reason we use "where merited" here is that we have seen too many examples, in other areas of the banking relationship with the small-business entrepreneur, where the banks will apply a policy across the board, regardless of need. Service charges are a very good example. There is often an arbitrariness to the application of a given service charge rate. If I happen to be in a more vulnerable state vis-à-vis the bank, I must sit there and take it, whereas if I have a little more advantageous position vis-à-vis the bank, I may be able to question it and get it cut back.

There is always an intimidation factor between the very small entrepreneur and the banker across that desk. It is by definition a tension-riddled and intimidating relationship. We are saying "where merited" is because we agree there are situations where pricing for risk is merited.I am sure the bankers would be able to identify them for you. For example, restaurants are inherently more risky than businesses that have many attachable assets, such as manufacturing operations. We understand that there would be a price premium for giving some debt to that restaurant. However, we do not feel the banks should just lift the rates across the board for small firms generally just because, by definition, small business is inherently more risky, more poorly managed, and so on -- all those so-called truths that we hear too often from the banking community. That is why we say "where merited."

In terms of worrying about what the public will think, it certainly has not stopped the banks from having high credit card interest rates. There is a big difference between prime plus two and prime plus eight, which is what Wells Fargo is offering. Instead of saying that the sky is falling with Wells Fargo coming into the market, we think the banks should start to do business with entrepreneurs who would like to do business and get on with things.

Mr. Garth White, Vice-President, National Affairs, Canadian Federation of Independent Business: Mr. Chairman, we have appeared before your committee several times, once when you were evaluating financial institutions. There is a public policy context with regard to the two issues that you identify, and that is a more rigorous measurement of the issues.

Recently, we have been appearing in front of committees with regard to the Canadian Small Business Financing Act, and we still do not have proper measurement of the loans over the last five years under the Small Business Act. There are knowledge gaps regarding particular sectors. When we advocate pricing for risk, we need to have a better handle on the situations in those sectors for our own research. I believe the government also needs a better idea of what sectors are under-financed or are having difficulty getting any financing before we get into the issue of pricing for risk.

The Chairman: We agree there is a lack of a database, but I was just curious as to what you think would be the likely reaction from your members and in the media.

Do you have any information as to the percentage or the number of your members who are taking up the Wells Fargo product, in particular at the higher end of their rate scale?

Mr. Gray: We are gathering information on that right now. As you can understand, the issues at stake in this merger proposal are pretty serious from the point of view of our constituency. Thus, we are trying to get gather as much information as we can.

We have some preliminary data that I would be glad to share with the committee as soon as we make it public. I cannot tell you, Senator Kirby, that we know the take-up by size of loan or anything like that. We have a sense of the take-up, but we do not have it by size of loan.

The Chairman: I was more curious about interest rates.

Mr. Gray: We did not ask with respect to specific interest rates, I am sorry. What I can tell you is that the take-up rates are exceedingly low.

The Chairman: Let us suppose for the moment that the chartered banks decided that the unofficial cap of prime plus three, for example, will disappear. I am curious as to whether there would be a market out there.

Ms Swift: There is definitely a market. In fact, we asked that precise question a number of times in some of our surveys. There definitely is a constituency that would be willing to pay what we could consider quite high rates for access to capital.

The Chairman: As there is in the U.S.?

Ms Swift: Yes.

Senator Kolber: Representatives of the Business Development Bank of Canada testified before us this morning. I chatted with them afterward. I asked one of them the precise question of how high they go with their rates. He told me that they have a lot of loans at prime plus seven and eight.

The Chairman: I did not know that. That is a helpful piece of information.

Senator Kolber: On top of that, they also referred to royalties they receive. Frankly, I did not know what that meant although I assume that is a piece of the action. Despite all that, their return on equity, which can be considered pre-tax because they do not pay tax, is only 10 per cent. It does not sound like a great business.

It seems to me that while we are trying to get more competition in lending to small business, it is not a very lucrative business. You probably have 100 arguments against that. I know a famous developer who used to say that he would rather be alive at 15 per cent than dead at 5 per cent. Perhaps that is what your members say.

Can you give me your comments on that? Pricing to risk does go on in our country, and it goes on with this development bank.

Ms Swift: First, I do not think we should consider BDBC as the paragon of small-business lending. They do some useful things for small businesses in certain niches. However, as many senior bankers have told us over the years, the lending products themselves are not where they make their money. They make their money as an institution on all the ancillary business, even personal business such as RRSPs, payroll services, mortgages and so on. Many senior bankers have told us that they view the small-business market as very profitable indeed. That is because your typical small-business owner has a greater net worth than your typical employee, across the whole range of the economy. In fact, all the banks are getting into the high end of the so-called asset management game in a big way these days, or at least they would like to.

Senator Kolber: You are speaking of wealth management.

Ms Swift: Yes.

Senator Kolber: That is a completely different subject.

Ms Swift: It is a related subject because many of those people you are talking about are small-business owners.

Senator Kolber: They must be good credit risks, if they are looking for wealth management.

Ms Swift: Ultimately, small-business owners do have a greater net worth. We think that is a positive thing for the economy generally.

Getting back to the profitability issue, we see a very profitable overall picture for the small-business market across the whole range of services that the BDBC does not provide.

Senator Callbeck: Senator Kirby asked you about the recommendations in the report regarding more access to funding for small business from the banks. If you had written the report, would you have included recommendations that are not in the report?

Ms Swift: Many of our key recommendations were included in the MacKay report. I suppose the question is a matter of cherry-picking among the recommendations. In fact, many of them arose from our meetings with the task force. Therefore, we certainly do not want to be critical of them. Naturally, as we have mentioned, there are some that we find quite negative.

Mr. Gray: In our submission to Mr. MacKay, we discussed issues of access and how they are due to many different factors. Access is partly a function of information. It is partly a function of choice. It is partly a function of account manager turnover, because the faster the account managers turned over, the less of a relationship there can be built up between the business owner and the banks. One of the five Cs is character, as I am told, and it is pretty hard to get an assessment of character when there is rapid turnover.

The final factor has to do with size and age of the firm, which puts you in a really difficult position. A further factor is how many choices there are in the locality. In some parts of your province, as an example, Senator Callbeck, there may only be one bank, and there is a little bit more latitude for the account manager in that bank to make access more difficult or on tougher terms and conditions. Our research, which has never been refuted, has shown that the faster the account manager turnover, the higher the cost to business, in terms of interest rates, collateral coverage, service charges, and lack of access to capital.

What we are saying is that the government and the industry have to address all four of those things in order for the small-business owner-operator to have a better ability to get access to capital.

Finally, there is a huge issue of equity capital requirements for small firms in this country, which we discussed when we last appeared before this committee on the SBLA legislation. We have had a lot of debate in this country on the provision of debt capital and not enough on equity capital requirements, but the two are necessarily interrelated. We have given far too little attention to that issue. It has been too often associated with rich people who have lots of money and who do not need any more equity or any more incentives to place and invest equity safely. For those reasons, I would say the equity issue is as important as the debt issue.

Senator Callbeck: I have a question about an area you did not refer to in your comments this morning but which I know you have addressed in the past. I refer to the ombudsman service. I think I have read that you feel that it is not well known. However, when the ombudsman appeared before us, he indicated that 40 per cent of Canadians know about the service. You said that the service is not well known, that there seems to be an intimidation factor about using it, and that it is not necessarily very good at resolving credit disputes.

Certainly, there does seem to be a problem. We had a lot of people come before us who had concerns about tied selling. In fact, the MacKay report cites the results of a poll indicating that 16 per cent of people feel that they had been subjected to tied selling at some point in time, but there are few complaints. MacKay recommends that the ombudsman service continue. However, the report also recommends that it apply to every financial institution and that membership be mandatory.

Obviously, you are not happy with the system. Do you agree with the MacKay recommendations? Do you have any other recommendations to add?

Ms Swift: One of our major problems with the mandate of the current ombudsman is that there is no reversing of credit decisions. Thus, the key issue on the table cannot be dealt with by him. There is definitely an intimidation factor. In addition, from some surveys we have done, we know that there is a good proportion of our members who feel that it will do any good to complain in any event. Perhaps it is not so much a question of intimidation but disbelief that there is a point in going through the process, which is a pretty tedious one. You have to go through a number of levels within the institution before you get to the ombudsman for the entire industry. We feel there are many things that could be done to fix the existing system.

There is also the issue of broadening it to cover the whole financial services sector.

Mr. Gray: When the working committee report was tabled in 1994, there was a lot of pressure for a national bank ombudsman -- that is, a government agency. We said that we thought it was preferable to allow the private sector to try to regulate itself on this issue and come up with some proposals. That is when you began to see the development of bank ombudsmen in the various banks.

I would not say that we are totally negative on it. We have concerns as to whether it can be completely effective, for the kinds of reasons that Ms Swift mentioned. Credit decisions and service charges, which represent the overwhelming majority of the complaints that we receive from our members, cannot be reversed.

This situation is similar to the one we face when dealing with Revenue Canada. You must be careful about complaining about your account manager. Although you are given assurances that it will not hurt you down the line, it may well jeopardize your relationship with that account manager or the next one down the line. From a business point of view, it is not worth taking that chance.

In our 1997 survey, we asked our members: How do you use the system right now? We wanted to try to add to the literature and to our knowledge about what was working, what was not, why it is was, and why it was not. We asked them how they went about appealing things in that system. We found out, first, that not many used it. However, the survey was instructive because most of them were using the established system. For example, in a survey done by the banks, 31 per cent said they would appeal to their account managers, which is what the banks say you should do first, 29 per cent would appeal to the branch manager, and 11 per cent would appeal to the regional VP. However, 9 per cent said they would take no action because they were afraid to jeopardize their relationship, and 18 per cent felt it was not worth the time, so close to 30 per cent said, in essence, that they would not use the system.

A system must have some credibility and show some meaningful reversals of decisions before members of the small-business community will feel they have a chance. There is not much credibility in the system right now, although I must say that one of our members did manage to receive a decision in his favour, and we are trying to promote that among our membership as an example of how the system can work if they choose to use it.

Senator Callbeck: On page 5 of your presentation, you list a number of recommendations. One of them is with respect to accountability measures for communities. The MacKay report discussed a community accountability statement. What information do you feel should be included on that statement? Should it be a standardized form that every financial institution must complete? One of the witnesses said that it would be very costly for small institutions to do that. What will this statement accomplish?

Mr. Gray: We believe there must be adequate knowledge and information through the system generally. Prior to the early 1990s, it was extremely difficult for most of us, as entrepreneurs or as policymakers, to understand what was happening with regard to small-business lending. You could not get reliable information about loans below the $200,000 level, but it was difficult even there. Our members were constantly saying, "I do not know how to choose a banking institution. I do not know who is lending and who is not lending, or who is performing well and who is not performing well." One of our functions is to put out report cards on financial institutions on a regular basis so that our members can be better informed about how the banking institutions are conducting themselves.

From a policy point of view, as well as from an entrepreneurial point of view, it is important to get more micro data into the hands of consumers and policymakers. That is happening through Industry Canada now and as part of this whole process of reviewing financial institutions. It is exceedingly helpful.

In terms of how detailed the micro data must be, we have not subscribed to the theory that you must know which trucking firm in which part of a province actually got a loan and for how much. We do not think that is appropriate, but we do think there is a need for more information.

Mr. White: We had this debate three years ago at the national level. We argued at that time that we should have more aggregate information on lending across the country. At first, the banks said there was no way they could do it to a level lower than $5 million. By the end of that week, after a couple of the banks broke ranks, they then said they could break the data down to smaller-size loans. Some of the banks actually said it would be beneficial because they could monitor their own records and see where they were lending. Rather than ignoring our sector, they were suddenly saying that it was a positive measure.

There is a balance that must be struck between making it difficult for banks to collect information and having some public accountability and information about where they are lending as well as the size of loans, to see if they are helping with local economic development.

I wish to return to the opening statement given by Senator Kirby on how this relates to public policy. We need information to be involved in public policy. Banks may find it useful themselves. They certainly do in the United States.

Senator Callbeck: Are you referring to their Reinvestment Act?

Mr. White: Yes.

Senator Callbeck: Someone told us that statistics regarding small businesses and financial institutions are worthless because if you are a small-business owner who goes into a bank to get a loan, you will not be asked to fill out an application unless the bank is sure that you will qualify to get the money. All the businesses that want loans but who are not asked to fill out an application do not become part of the statistics.

Ms Swift: That is certainly an issue. When you look at loan turn-down rates, which is one of the statistics often bandied about, they are compromised by the fact that there are a lot of people who never get to the application stage and are not counted in those statistics.

We will never have perfect statistics in anything. What the House of Commons Industry Committee has been doing over the last few years has shed a good deal of light on what is happening in the area of small-business lending. It has disaggregated the information down to a lower level of loans, in different sectors, and so on. We have seen some interesting sectoral statistics through the course of this whole review of financial institutions. We have been able to see where, for example, the big five have their sectoral emphases.

If you consider that in the context of the proposed mergers, you will see that in one of the merger proposals, over 70 per cent of some sectors are dominated by one institution. Those are data we did not see previously. That should probably have some bearing on whether they should be permitted to merge.

You are correct, the statistics are by no means perfect. However, they are better than they used to be. Everyone, including the MacKay task force, has said that the data are not good enough and we need better data. We could not agree more.

Senator Di Nino: This debate has been going on for how many centuries? It seems that these reviews always end up with similar recommendations, and they all involve the word "competition." I do not think we can argue with that, but let us focus on it for a couple of minutes.

The last time there was any real attempt to deal with this issue was a couple of decades ago, when institutions such as the CCB, the Bank of Western Canada and the Continental Bank were all waving the banner of small business and questioning whether or not we would be there for them. What happened? Why did we not succeed? Why are we trying to reinvent the same wheel? Do you have any thoughts or opinions on that?

Ms Swift: Yes. I would argue that one reason that some of those typically regionally based financial institutions ran into such trouble was that they were not too big to fail. There has been much discussion, since some of the more notable financial debacles, such as the Reichmann downfall, for example, of the likelihood that one of the big five would have failed if it had not been bailed out.

A part of the argument is that those institutions that did fail were more narrowly based. They were regionally based, and that necessitated a certain sectoral focus. Therefore, when there was a terrible time in a certain sector, such as the oil patch or agriculture, they were hit much harder than more broadly based institutions. However, this notion that even our big five banks would have been teetering on the brink if they had not been bailed out is a factor to consider.

I agree that it is a tough nut to crack. In the U.S., there are a great many institutions of various sizes, and their regulatory history has been almost the exact opposite of ours. It is a mixed experience. From our standpoint, we prefer the choice that is found in the U.S. market. We think there is much more creative activity. The entrance of an institution such as Wells Fargo, for example, prompts our existing institutions to think about offering a Wells Fargo kind of product, even if Wells Fargo's slice of the market is minuscule. If nothing else, it motivates others to do something different and to be a little more creative.

We believe that having more players is better. What is important is how you regulate to ensure that we do not have the fiascoes like the savings and loans debacle in the U.S.

Mr. Gray: This is a refrain that we have repeated for a long time. In the Canadian market that has the most competition, our members are the most satisfied with all financial institutions, and that is Quebec. There we have the Caisses populaires Desjardins, which has more outlets than any of the big five. We also have Banque Nationale, mainly a regional bank, which is extremely active in that market. Those two institutions are rated one and two in terms of satisfaction by our members. The level of satisfaction with the others is also much higher than elsewhere in Canada. We have to surmise that that is because the competition has forced better service, better delivery and better terms and conditions.

Senator Di Nino: So we agree that competition is probably the answer to this.

Mr. Gray: That is right, but it is extremely important to remember, as we said in our statement, that you do not develop the ability to start up a viable and sustainable bank overnight. Too often in this debate on mergers we hear that with the flip of a switch we can have community banks, foreign banks in numbers, and credit unions. We must remember that Ontario, the biggest province in this country, has no second tier.

Senator Di Nino: The lack of qualified, knowledgeable people to manage a financial institution will play a role. Obviously, that, in your opinion, would be one of the reasons some of these institutions have not been successful.

Ms Swift: In part, yes. We also believe that, if things are regulated properly, failure is not something to be avoided at all costs. Granted, you want to minimize the downside, and there are a lot of ways to do that with regulation. In this country, we protect consumers a lot. I have sympathy with the banks' argument that they pay into the deposit insurance pot in the largest proportion and that caveat emptor is not pursued too vigorously in certain parts of the consumer market.

Senator Di Nino: If the "too big to fail" issue had been addressed at the time, perhaps the CDIC losses would have been a little different.

Ms Swift: I agree.

Senator Di Nino: One of your recommendations is that we should look to our credit unions. It was not too many years ago that there were some serious difficulties, principally in Ontario, but also to a lesser extent with the Caisse in Quebec and VanCity in Vancouver. Do you believe that there is the knowledge base necessary in the credit union movement to be true competitors with the banks?

Ms Swift: Not yet. I do not believe that we have homogeneity within the credit union movement. It is a mixed bag. There are some groups within the credit union movement that are up the learning curve and very active in small-business services. There are others that are nowhere. We believe that it could be developed, but it will not happen quickly, certainly not in a year or two.

Senator Di Nino: A number of the witnesses have indicated that when they try to enter this field, the major banks are allowed to get away with murder in putting road blocks in the way of their success. Have you heard anything like that in your deliberations?

Mr. Gray: I did not hear the examples given, but I have talked to a number of foreign bank representatives over the years who said essentially that there is no point in coming into Canada. Quite apart from the regulatory matters, the costs of entry are overwhelming. Citibank tried to set up a retail outlet at Yonge and Eglington in Toronto. It was there for two and a half years and then it was gone.

Not only are the costs of entry prohibitive, but you can be assured that the branches of the big five in that locality will underprice everything until the new institution cannot make it.

I do not think many bankers would argue there was some glee when some of the smaller banks in western Canada failed. They could say, "See, it can't work."

Senator Di Nino: Are you suggesting that we should be addressing that problem in this review?

Mr. Gray: We are pro-competition, but we must be mindful of how easy it will be to set up competition to the big five.

Senator Di Nino: With regard to the provision of capital, and equity in particular, to small businesses, attempts were made a number of years ago to do just that, through labour-sponsored venture-capital corporations and other venture-capital types of entities. Is that a solution?

Ms Swift: Not for our market. In our view, labour-sponsored venture capital has been a big tax rip-off. It has been an absolute fiasco for the taxpayer and has done nothing for the so-called target markets.

Senator Di Nino: I understand that the only major company, which has well over $1 billion, annually pays penalties for not meeting its objectives.

Ms Swift: Yes. Venture capital, in its usual form, is in chunks that are far too big for our market. The small-business market requires chunks of $60,000 to $80,000 on average. The $5 million that is typical for venture-capital companies is way out of line.

Senator Di Nino: Is this an area we should consider in trying to solve the problems of some of your members?

Ms Swift: Again, considering the way venture capital is generally available today, I do not see it modifying itself to serve the true small-business market.

Mr. White: This is something we are pursuing. We surveyed our members on important sources of equity financing for their businesses. Only 1 per cent identified labour-sponsored venture-capital programs as a source of equity financing. High on the list was the $500,000 capital gains exemption.

It may be interesting for this committee to consider whether there are ways to expand RRSP investment in small firms. We can invest in Bre-X or Asia, but it is very difficult to invest your RRSP in your neighbour's business.

Ms Swift: One of the Ianno recommendations was specifically meant to try to implement such a program.

Senator Di Nino: Should the credit unions and so forth be given some protection -- although I hate to use that word -- from the predatory competitive practices that we have seen in the past?

Ms Swift: It is a good question and a tough one to answer. We are not in the business of interventionism. Indeed, our philosophical orientation is the reverse. Some of the credit unions are doing very well in this area now, British Columbia being a good example of a province where a few, very active credit unions are in the small-business market. I should like to think that if they are doing the job properly, they will get the business.

Senator Di Nino: The MacKay report recommends that we should give new entrants a break for 10 years on the capital tax. Do you agree with that?

Ms Swift: I agree with the MacKay report generally that the financial sector is overtaxed, and it is political opportunism that has allowed that to happen.

Mr. White: If I could add something, the fear of predatory practices is why we are very nervous about the banks getting into the insurance and leasing businesses. We are concerned not only about the predatory practices but also about what they may do during good times and how they might tighten things down during bad times and destroy a network that already exists.

Senator Oliver: I wanted to ask a couple of questions about small business and banking. One of the things the MacKay task force has told us is that banking has changed a lot in the last five years, and in the next five it will likely change an awful lot more, for individuals and for small business. One of the bankers who was here told us that, 15 years ago, most individual banking was done in branches and now it is only about 15 per cent. Most of us today, for instance, do not pick up our cheques and then walk down to the branch of the bank and deposit it to pay our phone bill. Instead, they are directly deposited. With electronic commerce, there are a lot of things that can now be done by small business without a branch.

I was a little surprised, then, that you said on page 4 of your report that you disagree that alternative forms of competition are easily or quickly put in place. It seems to me that some of the new non-bank companies have come up with a very simplified form of credit scoring. You fill in the form, and if this form and the formula say you can pay the money back, they will lend you $5,000, $50,000, $100,000, whatever the amount happens to be. It seems to me this can be done over a telephone or through your fax.

Are you insisting that you still need these branches for small business? What else does small business have to do to catch up to technology?

Mr. Gray: There is no doubt that technology is changing and it in turn is changing everyone's life. To cast small business as being antichange is just nonsense. There is no other sector in the whole economy that has to react to change as quickly. Technological change is coming, and it will change the way people do things, but our surveys of our own membership indicate that now about 40 per cent of our members, rising to 50 per cent, are using the Internet somehow. In terms of actually using it for business transactions on a regular basis, that number would be quite significantly less, under 10 per cent.As for the number who use it for banking purposes, we do not have an accurate percentage, but when we have talked to some of the major five, they have said it is in the single digits. We are still not there. When they say 85 per cent of transactions are made outside of the branch, that is true, but if you were then to ask them about business banking, they probably would not say 85 per cent of those transactions are made out of the branch. Business banking is quite different.

I will give you an example. During the ice storm here in Ottawa, we had members phoning us up and complaining that because they happened to have the debit card facility in their premises, they became the supplier not only of the candles and other things people needed but of cash as well. The bank closed down at the first flake of snow or drop of freezing rain. They were closed for days and these poor people in the local corner stores were not only having to hand out supplies but also cash. Ultimately, they ran out of cash themselves. They felt that this was a pressure that was undue and unfair.

They need coinage services. They need services well beyond just being able to do the transactions that I as a consumer can do through my bank.

When we ask our members if they need full core-banking services to operate their business, they say, overwhelmingly, yes. We agree that times are changing, and small businesses are adapting, but they need full-service banking.

Senator Oliver: The Retail Council of Canada appeared before us and told us about the need to be able to deposit coins and rent cheques and so on. You certainly need a branch for that but my real question is the following. Since the big banks want to get rid of the heavy overhead of branches and get into other things, what things should small business be telling us, from a public policy point of view, that we should be considering to accommodate small-business needs in the future?

Mr. Gray: My answer to you is that the real world out there is not just the way the banks envision it. I could envision the real world out there for the banks in a different way. Yes, they have a distribution network out there and, yes, it is getting more costly than they would like, but maybe if they worried about the entire relationship with all of their small-business clients that seem to be so difficult and costly to service, and not just about that business account, then some of those local branches might be a lot more viable than they are currently. Instead of focusing on that opportunity, they look only at the cost and do not tend to care much about the opportunity.

Senator Oliver: Thank you.

The Chairman: Thank you all for coming.

The committee adjourned.