Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce
Issue 5 - Evidence - November 23, 2011
OTTAWA, Wednesday, November 23, 2011
The Standing Senate Committee on Banking, Trade and Commerce met this day at 4:20 p.m. to study the present state of the domestic and international financial system.
Senator Michael A. Meighen (Chair) in the chair.
[Translation]
The Chair: Good afternoon and welcome to our meeting on the study of the present state of the domestic and international financial system. I am Michael Meighen and I have the honour to chair the committee.
[English]
Allow me to present the senators who are present; other senators will arrive from the Senate Chamber momentarily: Senator Mac Harb from Ontario; Senator Wilfred Moore from Nova Scotia; Senator Carolyn Stewart Olsen from New Brunswick; Senator Paul Massicotte from Quebec; and Senator Larry Smith from Quebec.
Today, we will resume our examination of the present state of the domestic and international financial system. I extend a special welcome to people watching on CPAC and on the World Wide Web.
The Office of the Superintendent of Financial Institutions, OSFI as it is known by its acronym, is the primary regulator and supervisor of federally regulated deposit-taking institutions, insurance companies and federally regulated private pension plans. As such, it plays a central role in ensuring that Canada's financial institutions and financial regulatory system are of the high quality for which Canada has become known, particularly during this period of international financial turmoil. It is, therefore, very appropriate that our witness today is Ms. Julie Dickson, Superintendent of OSFI.
Ms. Dickson, we are pleased to have you here and welcome you back after an absence of two or three years as a witness before this committee. You are preceded by an absolutely sterling reputation, and we have admired your work. If you have any opening remarks of a general or particular nature, we would be pleased to hear them, after which senators will put their questions.
Julie Dickson, Superintendent, Office of the Superintendent of Financial Institutions Canada: I have remarks, which I believe you have a copy of.
[Translation]
Thank you for inviting me to appear before your committee today.
[English]
Canada has benefited from well-capitalized and generally well-managed financial institutions, but neither regulators like OSFI nor the institutions themselves can become complacent.
[Translation]
The global economy remains fragile and financial markets are volatile. In recent months, the global financial environment has deteriorated and projections for economic growth in many countries have been revised down.
A mild recession is now projected in Europe, and the U.S. recovery is very weak. The European debt crisis creates additional risks and uncertainty.
[English]
Such developments obviously affect financial institutions. Lower growth will have a negative impact on profits. Institutions are already dealing with extremely low interest rates that affect margins and assumptions about future returns. In terms of the European debt crisis, while the total direct exposure of the Canadian banking sector to the most vulnerable countries is small, if Europe does not address its problems, all countries will be affected, and the impacts are difficult to predict. That is why OSFI requires institutions to do a lot of stress testing and why we also focus on capital and liquidity.
Capital is important, as it is a cushion for unexpected losses, and liquidity helps institutions deal with the ebb and flow of customer demand for money. Prior to the crisis, we closely monitored financial institutions, and the degree of monitoring has risen considerably. We have been also been raising the bar in the area of risk management at institutions in general, as the environment demands an even greater awareness and management of risk. Our message to institutions has been that they must continue to invest in risk systems and controls to withstand many challenges; and these challenges are not diminishing.
The crisis has been global in nature. A number of international regulatory changes have been proposed that aim to improve the stability of the financial system worldwide. The changes include initiatives related to capital, liquidity, leverage and the need to focus on resolution options for institutions in difficulty, such as living wills. I will elaborate on one of these initiatives today, and that is capital.
The Basel III Accord sets out minimum capital requirements that begin to take effect January 1, 2013, and gradually increase until 2019. These are minimums that banks in G20 countries must meet. The long transition period was provided because banks in some countries will need considerable time to meet the new standard. However, because the transition period is so long, G20 countries agreed that if banks are able to do so, they should meet the requirements as soon as reasonably possible. This is the case in Canada.
While OSFI's official rules will follow the Basel requirements and time lines — they will allow a phase-in between 2013 and 2019, OSFI has told banks that they should plan to hold enough capital to meet the 2019 requirements in Q1of 2013, which means 7 per cent core common equity. This is prudent, given the current environment. Canadian banks are well positioned to meet or exceed this expectation.
OSFI is also closely monitoring the actions of other countries. The U.S. will announce their approach to implementing the Basel III Accord in 2012. The EU has announced that EU banks must increase capital substantially by June 2012 using current rules and then move to the more demanding Basel III standard in 2013. Many people are incorrectly comparing bank capital levels globally. It is important to use a consistent basis of measurement, such as Basel III.
[Translation]
OSFI has been emphasizing internationally that rules, such as capital rules, are only effective if they are accompanied by intensive supervision. Effective supervision helps identify risks that individual financial institutions may be taking without understanding, or without controlling adequately, so that corrective action can be taken. Supervision has been a key area of emphasis at OSFI over the years.
I would also highlight that OSFI has a number of federal partners with clear and distinct mandates, who work in a coordinated fashion. This includes the Bank of Canada, the Department of Finance, the Canada Deposit Insurance Corporation, and the Financial Consumer Agency of Canada.
We meet regularly to discuss issues that may affect institutions or financial stability; each of us plays a unique role at the federal level.
[English]
I would be happy to answer any questions.
The Chair: Ms. Dickson, in your last paragraph, you mention the other federal bodies with whom you work and with whom you discuss on a regular basis. What happens internationally as far as OSFI is concerned?
Ms. Dickson: We are members of the Basel Committee on Banking Supervision, which develops the capital and liquidity rules and general risk management standards for banks. We are also a member of the Financial Stability Board. Canada would have three representatives, plus the chair, who is the Governor of the Bank of Canada, as you know. I would attend representing the supervisory agency. The Department of Finance would send a representative and the Bank of Canada has a representative as well. We are also involved on the insurance side as well at the International Association of Insurance Supervisors.
The Chair: For example, when the United States says that they will make known their position in 2012, is there a forum in which you can express your desire that their timetable be moved up a bit?
Ms. Dickson: Everyone who sits on the Financial Stability Board and the Basel Committee on Banking Supervision has agreed that Basel III will start on January 1, 2013. Not all countries have released the details of how they intend to implement Basel III and under what time frames they will allow institutions to follow the path to 2019 and whether they will be required to meet the requirements sooner. Not all countries have decided on those details yet.
I would expect to see the U.S. make an announcement in the first quarter. The key is to ensure that all countries do what they said they would do, which is to implement the Basel III Accord.
The Chair: If they do not?
Ms. Dickson: If they do not, we will deal with that problem when it arises. There are many mechanisms in place to try to ensure that they do follow through on the implementation. FSB and the Basel committee have begun a number of peer reviews to try to ensure that countries adopt these agreements because that was a problem prior to the crisis. We found that the U.S. had not adopted Basel II, but a lot of countries had not really done much when it comes to properly supervising financial institutions. You have to do that in order to determine whether the capital they report is accurate. Many issues like that are very important and we need processes globally to ensure that all countries are playing by the same rules.
The Chair: Thank you very much. Perhaps before going to the list of questioners, I will introduce the other senators who have arrived. On my far left is Senator Oliver from Nova Scotia; Senator Ringuette from New Brunswick; the deputy chair of the committee, Senator Hervieux-Payette, from Quebec; Senator Gerstein from Ontario; and Senator Greene from Nova Scotia. We will now get to the list of questioners, beginning with Senator Harb.
Senator Harb: Thank you very much for your presentation. Congratulations on a job well done. Obviously, it is due to your institution and to your team that our banking system was able to survive the crisis.
I wanted to ask you a question about private pension plans. Is there anything that your office could do, for example, in order to ensure that they meet the stress test? Are there any stress tests that you do in relation to pension plans?
Ms. Dickson: I should begin by saying that OSFI supervises only about 10 per cent of the private pension plans in Canada. We do ask that pension plan sponsors, namely companies that have plans, do stress testing. That was a requirement we introduced a few years ago because we wanted them to understand the implications of, for example, low interest rates, a slowdown in the economy or a problem with a particular company. We want them to understand the implications that would have for funding their pension plans. We ask them to do that. That is helpful because it is important to know what you could be faced with in all circumstances when it comes to your pension plan.
The government introduced and passed some changes in the legislation recently that I think were also helpful. One, in particular, allowed a sponsor to average the funding requirements over a three-year period. By so doing, you avoid the situation prior to that, where the funding requirements could be very volatile from year to year. That sort of helps a sponsor, as it can be difficult to cope with volatile funding requirements.
Senator Harb: With respect to derivatives, do you look at them at all, for example, financial institution exposures and how those derivatives are managed, the potential for risk? What sort of measures do you foresee in the future that should be put in place to handle potential crisis in that field?
Ms. Dickson: We do look at exposures. That is an important thing to do. The Financial Stability Board did agree that credit default swaps and interest rate swaps should be cleared through central counter parties. A lot of work is going on now to ensure that that happens. The deadline was the end of 2012. We are not there yet. I think that is very important. A lot of work is going on worldwide to try to ensure that as many of these derivatives as possible are cleared through these central counter parties.
[Translation]
Senator Massicotte: Thank you for being with us, Ms. Dickson. Let me just make one comment; when we take a look at the world, we have to acknowledge that Canada was very fortunate to get through a very difficult time in 2008-09. As you know, a number of people are claiming credit for this positive outcome; I believe the evidence suggests that the credit goes to our regulatory and supervisory system and your office to some extent, Ms. Dickson. On behalf of all Canadians, I would like to thank you for the good work that you do.
We talk a lot about the new regulations and Basel III, but — like any good supervisory and regulatory program — it still relies heavily on supervisors, on the people involved. I am not sure that someone else in your position would have done a better job than what we have seen over the past two or three years.
How can we reassure Canadians that, in the next five or ten years, the people in your organization will be as competent as they have been over the past three or four years, which clearly depends on the individuals filling those positions? What guarantee can you give us that the system as such will still be there for us if we are ever in financial difficulty?
[English]
Ms. Dickson: Thank you for the feedback, but OSFI is a team. It is important to note that some of the rules that OSFI have had in place have been there for a long time. A lot of people were behind this. Thank you for the feedback for me personally, but it really is a team effort.
How do we ensure that OSFI continues to function well in the future? One of the messages that I keep repeating is that we should not become complacent. I think OSFI did well, but there were a lot of other reasons why the Canadian financial system performed well. I keep reminding my colleagues to try to learn the lessons that other countries are learning and not become complacent.
We continue to employ the kinds of things we have done for the last 10 years. A little more than 10 years ago, OSFI rebuilt its staff. We began to hire a lot of people from the private sector. We have a Toronto office that is probably entirely derived from the private sector, Ottawa office, Montreal and Vancouver. Being in different market places also helps because we have been able to retain a solid core of people. We have been able to attract some very talented people, in part because we have some salary flexibility but people tell me it is interesting work because in OSFI you get to see the entire sector and in the private sector you usually cannot. When working for one institution, you only see that one institution and do not get an appreciation for the entire sector. Those are some of the things that allowed OSFI to perform well and we hope to continue to do so.
Senator Massicotte: OSFI is responsible, obviously, for the prudency of the financial institutions, but you are also responsible to supervise and assess the solvency of federally regulated pension plan system in Canada, in my understanding. A very large percentage — in fact, I read articles on this issue nearly every week, and your own reports suggest that — over 50 per cent of those plans today are insolvent with respect to meeting its financial obligations. There are different kinds of tests that can reach different results, but it is common knowledge — maybe because the market has been so poor — that the interest rate on bonds or fixed are also poor, so they are insolvent.
You made a comment recently on life companies. One cannot predict the salvation of these plans in the near term from a prosperous market or for a significantly larger interest rate instrument. What is the solution? Is the solution that is not being said a rearranging or a redefining of the obligations of the pension plans? Is that what ultimately must occur?
Ms. Dickson: The solvency position of the plans that we are overseeing are tested every six months or so. In June, the last time we tested it, the solvency ratio was 90 per cent funded, on average, for these plans. It has been much lower than that in the past. It is nice when it is over 100 per cent; we would like to see that. However, 90 per cent is not bad.
Given the events since June, if they continue, I would suspect that all pension plans, by the end of the year — and that is the next important date — will see an impact on their solvency ratio.
If you look at what happened in 2008 when we had a lot of market turbulence and equity market declines, et cetera, I think the decline there was something like 15 basis points. We will see what happens at the end of the year. Markets are hard to predict. They could bounce back. It is very unclear. No one knows where interest rates will go. I would not write off plans yet. If they have been doing the stress testing that we have encouraged them to do, they should not be surprised by the results. Some of the measures that the government had taken, especially in terms of defining how those funding requirements work and moving from a point-in-time measure to more of a three-year average, will help.
Aside from the markets are other issues, of course, that are relevant too, such as longevity. People are living longer. That means it is more expensive for sponsors of pension plans. The good news is that people are living longer, particularly I am told to age 89. It is easier to get to 89 and more difficult to get up to 100. Those trends can be very important too, so we do not want to be overly focused on the markets and not as focused on some of these other issues as well.
Senator Massicotte: I read a report that there were five or six defined contribution pension plans under a watch list. How could that occur when it is defined contribution? Is it because the employer did not make its contribution?
Ms. Dickson: It could be something like that, yes.
The Chair: Supplementary to Senator Massicotte's question, you indicated that you have some excellent people, which accounts perhaps for the excellence with which OSFI supervised the stormy financial seas in recent months. Can you tell the committee whether you feel you are able to pay enough to attract top talent? You did lose a senior employee in the past few months to a chartered bank. Presumably it has always been tough to compete with the private sector in the public area. Are you finding that a challenge? Is there any way in which you are able to compete on an even footing with the private sector?
Ms. Dickson: We adopted a special compensation philosophy around the year 2000, and that did give us more salary flexibility. We do try to target 75 per cent of cash salaries in the private sector, and we do salary surveys to try to ensure that we are on target with that. For a lot of levels, that is sufficient to attract people. At the very senior levels, one of the issues that would appear is bonuses in the private sector. You cannot compete with those.
As I look at it, the turnover rate at OSFI is very low. It is about 5 per cent, or less than 5 per cent. In the private sector, in the financial institutions, I am told that it is probably around 9 per cent. We have a fairly low turnover rate. I think that is because the people who join OSFI tend to be special people and, once they join, they do find the work incredibly interesting.
We have been quite fortunate. The crisis that began in 2007 created a much higher awareness of OSFI. We find now that, when we post a job, we tend to get a lot of applications. For now, we are feeling comfortable.
The Chair: Do you have any programs such as one the tax department had a few years ago where a lawyer could go in for two or three years and then go back to the private sector?
Ms. Dickson: We do not typically do that. People have joined OSFI and stayed a few years and left, so that has happened. Typically, that person would come from, let us say, a bank or an insurance company. They would find out everything about all the competitors and go back. It can be a challenge. We do not typically see a lot of that.
Senator Moore: Thank you, Ms. Dickson, for being here. I want to ask you two questions, one with regard to derivatives and the other on the Basel III capital requirements.
With regard to derivatives, following up on what Senator Harb asked you, we heard in the past in this committee that sophisticated investors who invested $150,000 or more did not need a prospectus. They knew what they were doing and so on. Then we had the asset-backed commercial paper situation, which lost 30 or $33 billion. Clearly, some persons did not know what they were getting into. Is there a requirement now for a prospectus to be put together and issued before derivatives are sold?
Ms. Dickson: That would be a good question for the securities commissions. I do not know the answer to that question.
Senator Moore: I thought that came under your bailiwick, but I guess not.
With regard to the Basel III capital requirements, there is a phrase here about the minimum assets they must have. I have heard the phrase "net liquid." Is there a difference? There has been some controversy. Mr. Carney, the governor of our bank, has spoken out about the need to adhere to these rules. He has been challenged by chartered banks in Canada and by banks in the United States. Is there a difference between the capital requirements as being advanced by Basel III and what the banks think it should be? Could you explain that to me and the people watching this broadcast?
Ms. Dickson: Yes. There are three important elements to the Basel III Accord: capital, liquidity and leverage.
In terms of capital, I think that a number of global banks are not happy with the Basel III Accord on capital because it is a substantial increase in capital in the banking industry. They are not very happy with that.
Senator Moore: This is money they must keep on reserve?
Ms. Dickson: Yes, for unexpected losses.
On liquidity, the industry globally is very concerned about liquidity as well, but the Basel committee put out a proposal. It is still consulting on that proposal. Once agreed, it would come into effect in I believe 2014 or 2015. There is a lot of concern in the global banking industry about the liquidity proposal.
Senator Moore: What does liquidity mean versus capital?
Ms. Dickson: It is the amount of cash you have on hand when people withdraw money.
Senator Moore: So this is net, uncluttered cash there?
Ms. Dickson: Yes.
Senator Moore: It is different from capital, which you might have to sell off some assets to realize; is that right or not?
Ms. Dickson: Yes and no. When you are talking about liquidity, there are two aspects to it. It is how much do you have in liquid assets. The most liquid would be cash on hand. Treasury bills in Canada would be a nice liquid asset. How much do you have in the event that everyone you do business with walks in and wants to take out their money? It is important to know how much you have and to have enough to withstand, under these rules, 30 days of everyone wanting their money out. That would be a minimum.
The other aspect of these rules involves maturity transformation, where banks borrow money from you in a deposit, short term, and they might lend it for the long term. If you do too much of that, have too much of a mismatch, you can have a problem, and these liquidity rules are designed to deal with that as well.
Senator Moore: It is to keep that balance on the positive side.
Ms. Dickson: For sure; and how out of whack do you want that balance to be?
Senator Moore: Does your committee look at the Basel committee or the Financial Stability Board in terms of the regulation that you are trying to put into the financial sector?
Ms. Dickson: Yes. That is a big issue for the global banking industry. The leverage ratio receives a little more acceptance. We have had a leverage ratio for a long time in Canada, but some other countries have not had one. That is a bit of a change for them.
Senator Moore: You had capital and liquidity. What was the third item?
Ms. Dickson: Leverage.
[Translation]
Senator Ringuette: The Basel III Accord mentions banking institutions. In Canada, we have chartered banks. They essentially started as commercial banks. Then investment banking was added, not to mention the insurance business in recent years.
So, in terms of Basel III and Canadian financial institutions, do the ratios required to achieve the objectives include all the assets of our banks, or should I say our financial institutions, or is it just the commercial side or the investment side? In other words, is there a clear distinction that we should be aware of and that only applies to the Canadian financial sector?
[English]
Ms. Dickson: The best way to explain it is that the Basel III Accord applies to banks. Insurance companies have different rules that they have to adhere to. They are not called Basel III; in Canada we have Minimum Continuing Capital and Surplus Requirements, MCCSR. Investment banks are owned by the major banks in Canada.
Senator Ringuette: It is not the same in other countries.
Ms. Dickson: That is true, although it has changed a bit. As a result of the financial crisis, many of the investment banks in the U.S. have become banks. Goldman Sachs has become a bank in the U.S. In Canada, all major banks own investment banks, and the Basel III rules apply to the consolidated group. In the U.S., prior to the crisis, there was an attempt to apply bank capital rules to investment firms that were not banks. However, the crisis would indicate that probably was not done fully.
In Canada, we have banks, insurance companies, credit unions and caisse populaires.
Senator Ringuette: The latter are under provincial jurisdiction.
Ms. Dickson: Yes. Sometimes a province will pick up the Basel rules. It is important when looking at a financial institution to try to understand what capital rules they are subjected to. Anything called a "bank" in Canada will be covered by the Basel rules.
Senator Ringuette: Does that include the investment banks?
Ms. Dickson: Yes.
Senator Hervieux-Payette: May I have clarification? Banks also own insurance companies.
Ms. Dickson: Yes.
Senator Hervieux-Payette: There is the main company, the bank, the investment bank and the insurance. Are these covered by the Basel rules or is there an exception for the insurance branch?
Ms. Dickson: The Basel rules say that when a bank owns an insurance company, the bank must deduct the investment from its capital. Then, we apply the insurance company capital rules to the insurance company. In Basel III, it is globally agreed that is how it should be done. We have done it that way for many years.
Senator Hervieux-Payette: That clarifies the fact that insurance companies on their own fall under different rules and insurance companies owned by banks fall under the Basel III rules. In terms of calculating the Basel III rule, you have to calculate the banking and the investment banking together.
Ms. Dickson: Yes.
Senator Ringuette: That is clear. With regard to your role nationally, how often do you review the basic necessities that are required by either Basel or Canadian legislation?
Ms. Dickson: Did you say "legislation"? Are we not talking capital anymore?
Senator Ringuette: No.
Ms. Dickson: If we are talking about the rules under the legislation, it is supposed to be every five years.
Senator Ringuette: I am sorry; maybe I was not clear. How often would you review a bank's requirement under either the Canadian legislation or Basel? Is it on a yearly basis or every three years or five years?
Ms. Dickson: It is continuously. On a regular basis we are always looking at, for example, what a bank is doing? There are rules in the legislation and in the guidelines. In terms of capital, for example, we have the Basel III Accord, which will be minimums. We have to assess constantly whether we need to adjust that and require more capital.
Senator Ringuette: Maybe I have to be even clearer. How often do federally regulated financial institutions in Canada report to OSFI? Is it on a yearly basis or every two years or every three years? I do not want to hear regularly, because that does not answer my question.
Ms. Dickson: It depends on what the report is about. Every quarter, an institution has financial statements, like any corporation. We would have that. We constantly receive data feeds on an institution's portfolio. We need to know on a regular basis whether the business is changing. Maybe a bank decides to go into a new business. They could grow that business very quickly, in three quarters perhaps. We need to be able to see that. We have constant data feeds on what they are doing. From time to time, an issue will come up where we want more information. Under the act, we can ask them to report to us anything at any time.
Senator Hervieux-Payette: One of the banks bought MBNA. How did you monitor that?
Senator Ringuette: I did not get an answer.
Senator Hervieux-Payette: My question is related to what you are asking. When a Canadian bank bought MBNA's portfolio of credit cards, how did the reporting on this happen? When did you receive the reports? How did you monitor that? We are talking about billions of dollars.
Ms. Dickson: If a bank wants to buy MBNA, they have to get our approval. They have to present an application with all the details. They have to tell us what they intend to do once they make the acquisition. We get a lot of information at that point. We would already have information on both entities because we regulate them both. Once a bank owns another entity, it is part of what we look at on a day-to-day basis.
We might say "that is pretty small; we will focus on something else." It is a risk-based approach. We have to pick and choose the areas that we focus on, and it depends on the materiality of the business. It can be anywhere. It can be in Canada or in the U.S. We have institutions with operations in Asia. If it is material, which is something that you have to judge, we will go look at it.
The Chair: I think the problem is, as Ms. Dickson says, that there are different areas with different reporting requirements. You can look into anything at any time essentially, as I understand it.
Ms. Dickson: Yes.
Senator Ringuette: No.
Chair, I understand that OSFI has the power to request any kind of data at any time. The only answer I have received is "regularly." "Regularly" can mean regularly every three years, regularly every month or regularly every day. I am trying to get a specific time frame here that is a minimum within which you would look into whether a Canadian financial institution does meet the required capital and the required liquidity.
That is my question. Forgive me if I was not clear enough and got an unclear answer, but I want to know what the time frame is. What is the minimum required time frame to report on —
The Chair: Report what?
Senator Hervieux-Payette: Basel compliance.
Senator Ringuette: Exactly, on Basel compliance or on Canadian banking compliance.
The Chair: Does that help?
Ms. Dickson: It depends on the issue: for liquidity, weekly; for capital, definitely every quarter. It depends.
The Chair: Could we ask Ms. Dickson for a list? Could you give us a list of those sorts of things and submit it to the clerk?
Ms. Dickson: Sure.
The Chair: Would that be helpful, Senator Ringuette?
Senator Ringuette: Yes, it would. In the same time frame of looking at oversight on your part, what is it for an insurance company operating in Canada and also what is it for the private federally regulated pension plan?
Ms. Dickson: For insurance companies, again, it will depend on what the issue is. Liquidity is not a big issue in the insurance industry, but capital would be quarterly again.
For private pension plans, that would be a different situation where, once a year, they will send us a valuation report, which is a detailed analysis of the plan and its health, et cetera. A pension plan is a much longer term arrangement, so this one year used to be every three years. That has been a big change to move to once a year. These reports are not something that you could do every month. They are done once a year, but we test solvency every six months. Every six months, we go in and look at what the solvency ratio is and at what has happened in the last six months.
Senator Ringuette: The solvency of the pension plan?
Ms. Dickson: Yes; exactly.
Senator Ringuette: Thank you.
The Chair: It would be helpful if you could get us that, Ms. Dickson. There is no extreme urgency.
Senator Moore, did you have a supplementary question?
Senator Moore: Back to an item that was raised or that Senator Ringuette asked about, you mentioned that every Canadian chartered bank has an investment bank. Do those investment banks invest or put at risk deposits of customers, or are the customers' monies over there in the pure chartered bank part of their operation?
Ms. Dickson: It depends a bit on the individual conglomerate and how they have structured it. Generally speaking, when talking about a big bank, it is hard to untangle all the businesses they do. They can have separate legal entities, but the business can be run on a day-to-day basis in such a way that it is hard to untangle. This is something that is being looked at through the living will process, which I mentioned in my opening remarks. This becomes important in a failure situation. During the financial crisis, with respect to Lehman Brothers, for example, people realized that untangling an operation like that in a short period of time without any information is very hard. These living wills are intended, first, to get the legal structure clear and then understand all the internal relationships among all the entities. The objective is to try to ask yourself if you can separate out the banks and the deposits, which are insured by CDIC, from everything else. A lot of work is ongoing with that right now and Canada is not the only country involved in that.
Senator Moore: If you find it tough to untangle these operations, I do not know what Joe Citizen or Jane Citizen depositor is supposed to think or do. I guess they are counting on you and on other persons in positions who can try to sort this out and definitely make it clear that this is where your money is and this is the risk here and it is not over there. People would like to know that. I would like to know that.
Ms. Dickson: The important point to note is that deposits are covered up to $100,000 by CDIC, which goes to a great deal of effort to try to ensure that Canadians understand that.
Senator Moore: There are credit unions, right? Do you deal with credit unions?
Ms. Dickson: No, we do not. CDIC covers banks, et cetera. For your viewers, I encourage them to go to the CDIC website and get information on what is insured and what is not.
The Chair: The CDIC is the Canada Deposit Insurance Corporation.
Ms. Dickson: Yes.
Senator Massicotte: I know it is comforting for depositors to know that they are insured for up to $100,000, but that does not help Senator Oliver or Senator Greene here.
Senator Greene: Look who is talking.
Senator Massicotte: Having said that, do you have any personal views? Volcker and other people have said strongly, "Separate investment banking stuff from deposit taking stuff." In Canada, we said, "No. We do not need to do so. We have good cooperation of all these regulatory bodies, including the Bank of Canada." The Minister of Finance said, "We are confident and able enough to take that risk and analysis and not jeopardize our system." Do you have any comment on that issue?
Ms. Dickson: We are closely watching what other countries are doing in this regard. The Volcker rule is very interesting. We have been watching it, but they have not yet been able to finalize how they will do that. It is one thing to say that you want to prevent banks from undertaking that type of activity; it is quite another to write a rule covering it.
I think it was in October that the proposed rule was made public, but the document contains over 200 pages. It is in the hundreds of pages and it had many questions throughout for the industry on how this could be done. It is not a simple matter.
I would be interested to see how the U.S. goes about that. If they find a way that works, then I think countries will look at it. However, in Canada's case, we had a model that seemed to work. The banks will say that the profits that were made during the crisis from the investment banking operation did matter in terms of their profitability. They would argue that they have good controls on that business. This is an area everyone wants to talk about because the Volcker rule is famous. The U.K. is going down a similar path. We will see if they do implement that. I saw yesterday, or today, that the EU is also looking at whether there should be a separation between retail banking and investment banking. I think you cannot ignore those developments, but it is also useful to watch and see whether countries are successful in figuring out how to do this.
Senator Massicotte: Thank you.
Senator Gerstein: Thank you, Ms. Dickson, for being with us today. The stability of the Canadian financial structure today is globally recognized. People look at Canada as the apex of how to run a financial situation.
However, I think there are some of us around this table who remember that it was not always so. Twenty-five or 30 years ago, we had the failure of a bank in Western Canada. I think there was the Northland Bank. There were many trust companies in very great difficulty. Quite frankly, I view the intervening years as a reflection on all governments. This is not a partisan question. It is a reflection on everyone who was involved. However, it did not just happen. What has happened in our financial structure in Canada, over the last 20 to 25 years, that has taken us from a situation where we had serious problems — we certainly were not on anyone's radar screen as somebody to look to as to how to operate a financial structure — to where we are today? Is it regulation? Is it enforcement? Is it policing? What has changed? It did not just happen. It was not business as usual, which is marvellous.
Ms. Dickson: If you look at the small bank failures — there were a lot of trust company failures as well, in the 1980s — there were royal commissions and studies into that. I think they concluded that the problem was that there was really no supervision. As well, the statute was not really adequate. Owners could engage in self-dealing; there were no restrictions. It was a very different time, and I think Canada learned a lot of lessons from that experience. Various governments did lots of things to strengthen the system.
For example, OSFI was created and —
Senator Gerstein: OSFI did not exist 25 years ago?
Ms. Dickson: Not when the two banks failed. It did exist when some of those trust companies failed. One of the big things that happened was that, in 1995, OSFI was given a mandate. It was very clear what the job was. This led to a lot of focus on safety and soundness and, I think, a fair bit of accountability because everyone knew what the job was. I think that that was a pivotal moment in OSFI's history.
The statute was greatly strengthened over the years. It has been revised every five years, so I think that that has played a role.
Senator Gerstein: Is this OSFI's statute, or are you including everything — the Bank Act, CDIC?
Ms. Dickson: Yes. It has been regularly updated, which has been very important. Then you get into the most recent period. You had more effective regulation and supervision, for sure, but many other factors were at play that were very important in terms of how Canada dealt with the most recent crisis. The fiscal situation is very important, especially in this environment where you see a sovereign debt crisis before your eyes. I think the fact that the Canadian fiscal situation was fairly good going into the crisis is key.
Some of the practices, in the mortgage market, that have been historic in Canada were key. Canadians cannot walk away from their mortgages. You do not have mortgage deductibility. I think those things were very important. It has been a combination of factors.
Senator Gerstein: Could I assume, picking up on Senator Ringuette's question about how often you view some of these ratios and requirements, et cetera, that if something is offside, or perhaps going in a direction you are unhappy with, you have policing powers and the ability to enforce it, to get in and find out what is going on very quickly?
Ms. Dickson: Yes, we have a lot of powers.
Senator Gerstein: Has that been part of why we are in the position we are in today? I assume that, over the period, there must have been times where there were concerns over some of our financial institutions.
Ms. Dickson: I think that powers are one thing — and they have been beefed up a bit over the years — but, I think the more important things are the mandate and the willingness to use the powers. I think many countries have powers, but they do not use them. I think you have to use them.
Senator Gerstein: The willingness. That is a very interesting word you used.
Senator Hervieux-Payette: They put a woman in charge. That is why it is working. We should realize that.
Senator Gerstein: Ms. Dickson, thank you very much. My compliments to you and your associates. I think all Canadians are very proud of what you have accomplished.
The Chair: That was not a question that you have to respond to; I think the answer is self-evident. Following on from Senator Gerstein, in terms of the OSFI mandate, is there anything in the mandate or statute that you would like to see changed or added?
Ms. Dickson: We think the mandate is a good one. It seems to work.
The Chair: If it ain't broke, don't fix it?
Ms. Dickson: I would never want to say nothing can ever be improved, but, right now, we think it is a pretty good mandate. It seems to work. It does require that we be very focused because it says things like "understand the financial condition of an institution; take action expeditiously." That is the word, "expeditiously." Other countries did not have a mandate like that. To give you a really good example, the mandate in the U.K. was to promote London as a financial centre. If that is the mandate, you, as a supervisor, would take completely different decisions than you would under our mandate.
Senator Oliver: First, welcome to the committee. I would like to extend my congratulations to you for the excellence of the job you have done as our prudential regulator. It is certainly well recognized around the world.
One of the things that has made you quite well known is your position on tier 1 capital ratios. Senator Moore asked you questions about that capital, and I would like to take that a bit further.
You said that this capital had to be liquid and that it could be in the form of cash or treasury bills. What else can it be in the form of?
Ms. Dickson: That was in reference to liquidity. To your point about capital, banks issue common shares, so investors buy common shares. That is an example of what we are really talking about with capital.
It is the deductions that are important. What you deduct from the capital number is what is really important in this Basel III Accord. An example of that — I think the governor mentioned it when he was here — is deferred tax assets. If you have a failure, that is not cold hard cash, so we deduct that from capital. Certain other intangibles we deduct from capital.
We like cold hard cash as capital. That is retained earnings and common shares. We include, under Basel III, what we call contingent capital, which is a new form of capital that would convert into common equity if there ever were a failure. When talking about core tier 1, which is what we usually talk about, it is the retained earnings and the common shares, and that is about all.
Senator Oliver: How often do you and your office check on the retained earnings and common shares? Do you wait for the quarterly statements, or do you go in each month and get monthly statements?
Ms. Dickson: On the retained earnings and so on?
Senator Oliver: Yes. If they do a new issue of common shares, is that sent to you?
Ms. Dickson: They usually keep us well informed of anything that will either decrease their capital or increase it. If they are going to do an issue of common shares, they will typically let us know. Certainly if there is a surprise within the quarter and they think there will be a hit to income, they will certainly let us know.
On a regular basis, we would have, as I say, at least a quarterly understanding right now of going out. We want estimates of where the capital position will be over at least the next year based on different scenarios.
Senator Oliver: On a different topic, near the end of your presentation today, you talked about the fact that you have a number of federal partners with clear and distinct mandates. Some of them have mandates for fiscal policy and some for monetary policies. You are a prudential regulator, so you are concerned with safety and soundness. With all of you in the same room, are there glass ceilings or things you cannot discuss because of the different, separate mandates you have?
Ms. Dickson: No. We can discuss anything. Different committees exist in order to ensure that there is good communication. The financial institution supervisory committee is the one I chair, and that is where we get together at least once a quarter to talk about all the financial institutions we are overseeing and any issues we have with any of them. We will talk about the environment and whether there will be some challenges. Anyone can talk about anything. I think the key is to have people who appreciate, which I think the federal partners do, why it is important to have conversations like that. You do not want anyone surprised.
Senator Oliver: The final question I have relates to global standards and global enforcement. You talked about the fact that, internationally, rules such as capital rules are only effective if they are accompanied by intensive supervision. Are there stress tests that you use in Canada that are employed internationally and globally around the world? Are there any standard universal tests that can be used for this intensive supervision?
Ms. Dickson: All supervisors are doing stress testing.
Senator Oliver: Are the stress tests all the same?
Ms. Dickson: No, it should depend on each country and the circumstances facing each country.
Senator Oliver: I am trying to get at globally. You are on a number of global committees dealing with supervision and so on. I wanted to know what those standards of enforcement are like.
Ms. Dickson: I would say that is where there are no standards, and I think it is a major weakness in the global financial system. It is very hard to deal with that. There is an IMF process known as the financial sector assessment program, where they go into countries. Canada was the first country to be assessed many years ago, around the year 2000. They send a team in and ask all kinds of questions about what you do on a day-to-day basis. They ask to see some files so they can figure out how you supervise. That is an important program.
Senator Moore: What was the weak link again?
Ms. Dickson: Supervision.
Senator Oliver: I asked the governor about it twice.
Ms. Dickson: Yes. The rules are one thing. The Basel rules are rules. Often the best way to explain this is to talk about sports. You have a rulebook, but it is all about how the game is played and what the referees are doing and how the players are behaving. That is the supervisory part of it. We have really stressed it in terms of capital.
There is now a peer review system and an appreciation for the fact that global banks have models they use to determine their risk-weighted assets. If a global bank has a loan to a corporation, they have models to figure out what the probability of default of that loan will be and how much they would recover if there were a problem. These banks all have many models dealing with things like that. You have to watch those models extremely closely. You have to check whether every bank would come up with the same capital result, depending on if they had the same portfolio, which is extremely challenging to do and something that we in Canada have been doing for quite some time. That is where I think a number of countries are now saying they think more needs to be done, and they are worried that institutions from some countries are benefiting because supervisors are not really checking how the models are functioning.
Senator Oliver: Am I naive to think there should be some kind of universal or global standards in this area, or is that something you think can ever come to be?
Ms. Dickson: I think there are standards. It is a question again of your willingness to implement those standards.
Senator Oliver: You need an enforcement mechanism.
Ms. Dickson: Yes. There is an effort under way. It is about to begin. It has been agreed that we will try to assess whether global banks, if given the same portfolio, would come up with the same capital. That will be difficult to do, but it is on the radar screen, and a huge amount of effort will go into that in the coming months.
Senator Ringuette: I was just saying to my colleague that it is like expecting that a voluntary code of conduct will act as regulation.
How many employees do you have to do all this supervision?
Ms. Dickson: It is about 580.
Senator Ringuette: What is your yearly operating budget?
Ms. Dickson: Last year, it was $108 million.
Senator Ringuette: Most of that comes from fees to the financial institutions; is that right?
Ms. Dickson: Yes, it is virtually all billed. We had a budget last year of $108 million, and it is virtually all paid for by financial institutions and pension plans we oversee.
Senator Ringuette: Therefore, you will not be subject to the 5 per cent cuts in federal budgets, so you will be able to maintain that level of supervision.
Ms. Dickson: We believe so. In the spirit of restraint, we have tried to do a number of things to keep our costs down. We have hired a number of people, actually, since 2007-08, but we have not really expanded our footprint or our office space. People are working quite close together. We have tried to reduce travel as much as we can, and cut out the hospitality, which was not much. Most of it is now supervisory colleges. We do a college where, if it is a global bank, for example, you get core supervisors from around the world who are involved with that bank, and you come together and talk about the health of the bank, et cetera. That is hospitality.
Senator Ringuette: Going back to my last question, if your operating budget is totally supplied by the Canadian financial institutions you supervise, then you should not be subject to government cuts with regard to your operating budget because the money is not coming from the federal government. Is that right?
Ms. Dickson: Right. All I am saying is that we have tried to look at our operations in the spirit of —
Senator Ringuette: Efficiency.
Ms. Dickson: Yes, efficiency.
Senator Tkachuk: Ms. Dickson, going back to 2008 again and the financial crisis before that, I remember Sarbanes-Oxley and all these regulations and everything, and that was going to prevent any future financial crisis. What was the major thing that was missed in the United States by the regulators themselves?
Ms. Dickson: That is a good question. I would say that they did not have a mandate like we did. If you do not have a mandate that focuses you, I think that is a problem. Whether they missed something, I do not know. I do not believe they had a mandate that directed them in a certain direction. That was the difference between Canada and the U.S.
There are a lot of regulators from the U.S. If you look at a city bank, the Federal Reserve has a role, the office of the controller of the currency has a role, and the office of thrift supervision might have had a role. There were a lot of different regulators involved. They were not always aware of what the other regulator was doing. There were lots of constraints on their ability to see what was going on in other parts of the conglomerate. I said earlier that in Canada we see the whole thing and we will look at the risk wherever it is. It might be in Canada; it might be somewhere else; it could be in the investment bank; it could be anywhere in the bank. Our role is to understand the entire operation and to figure out what to do if they are risks that are being taken that are not well controlled. The U.S. regulators were in a very difficult position in terms of doing that. That would have been another big difference.
I think in general, OSFI, after we got our mandate, and it started in 1995, was really focused on supervision. That would be a big difference from any other countries.
Senator Tkachuk: I think your view is that we are more regulated than the Americans, or are the Americans less organized in their regulation than we are? They are massive. They have thousands and thousands of banks. Their banks used to all be state monitored and then they allowed them to cross borders in the States and the banks grew. In a way, we deregulated. We allowed banks to buy and own investment banks and insurance companies, which is what everyone is saying that we did not; we have more regulation. Actually, we deregulated our banks.
Is that what the United States has to do now? How large an organization do you need to oversee 4,000 banks, plus investment banks, insurance companies? Is it possible to regulate it?
Ms. Dickson: The U.S. regulatory system probably has far more regulation than in Canada. It is a question of what the regulation is all about.
Senator Moore: It is the will to enforce.
Ms. Dickson: It is the will to enforce. In terms of the number of regulators, they have many more than we would have. It is all about what you are doing with those people. It is actually an issue that we are looking at globally now. How many people should you have looking at a global bank? Practice is all over the map. In the U.S., they would have hundreds of people looking at a major bank conglomerate. Some other countries might have a couple of people. Then you have Canada. We are probably around 20 people for a large bank. It is all about what you are doing and where your focus is.
Senator Tkachuk: I am always concerned that people have the wrong solution to a problem that does not even exist. The financial instruments that these organizations were selling, like Lehman Brothers and others, were used to diversify their mortgage. The banks and other institutions were using them to diversify their portfolios. By themselves, was there anything wrong with these financial instruments? They were made up of packages of mortgages, maybe bank loans, maybe some credit card debt, in a package that was sold. They were not by themselves illegal, were they?
Ms. Dickson: No. I think it was more a question of there was not much transparency about what was in each of those instruments.
Senator Tkachuk: We get back to Senator Moore's question, which is that these were sophisticated investors.
Senator Moore: Supposedly.
Senator Tkachuk: Should they need protection? How large does the number have to be before they are sophisticated investors? Is it $10 million, $50 million, $5 million? They were buying instruments. Other banks were buying them. It was not ma-and-pa down the street buying these things; it was other banks buying them. How large would the number have to be and what kind of protection do we need? We still need these. How else would mortgage companies diversify their portfolio? They have to do that; it is important for them to do that.
Ms. Dickson: There are many different issues. Aside from investors realizing too late that they did not understand what was behind those instruments, the same could be said today of investors and sovereign debt in Europe.
Senator Tkachuk: Exactly.
Ms. Dickson: Aside from that particular issue, it is the assumptions as well that went into the assessment of risk. People assumed that housing prices across the U.S. could never all decline at the same time, so they assumed maybe you have a decline in California but not in Florida. These models typically assumed that you would not have a steep decline across the board. It is also the assumptions that went into the products.
It is really a question of the cycle. When times are good, people feel that nothing bad can ever happen and you are most risk-averse at a time like this, when there is so much focus on risk in the world. It is often a question of risk appetite as well.
Senator Tkachuk: I think you hit it right on the head, which is that it was real estate; it was the bubble. It was the idea that real estate would never go down and, therefore, there was no risk to it, when the bottom fell out. It could have been here. We were very lucky that it did not happen here. However, if we had all those incentives — that is, mortgage deduction, zero down — that the policy-makers in the States were pushing to make sure everyone had a house, that by itself caused the collapse of the financial system.
Ms. Dickson: There were probably a lot of factors at play.
Senator Tkachuk: I am trying to find a few. I always come back there.
Ms. Dickson: I think many people have written on the causes of the crisis, et cetera. They do include the role of housing policy in the U.S. as an element of that.
Senator L. Smith: Ms. Dickson, you said earlier in your comments that you had a keen focus on the international market. Of course, we are all experiencing what is going on in Europe. This sort of like a set of dominoes that are falling now in that one is ticking against another in terms of the countries? Do people like you already know what will happen? I am not trying to be a doomsayer, but you spent a lot of time, you are very successful in your field and you understand trends and factors. I would like to see your overview of what will happen. I asked Governor Mark Carney this same question. In messaging to Canadians, what do we say to Canadians? At the end of the day, if Canada is strong and everyone else is weak, it will not do Canada any good. If everyone else is blown out, how will you perform yourselves? Do you have a simple message for Canadians? A lot of people are nervous these days, including me.
Ms. Dickson: I do not know what will happen, obviously. However, in the next few weeks there are important meetings coming up of euro finance ministers, et cetera. It would be nice to see some progress on that front, because certainly the markets are demanding it.
You can only do the following: In Canada, for quite some time, we have been focused on the capital positions of the Canadian banks, the liquidity positions, the risk management and the monitoring. They have to be all over their exposures to Europe and elsewhere. They know their business better than we do, because they are in there every day and running it. They have to be thinking about various scenarios.
In our job, we hope for the best and prepare for the worst, basically. That is what we want financial institutions to do. We are hoping for the best, but you do have to try to ensure that institutions are very focused, which they obviously are, on the situation, and as prepared for a big problem as they can be. That is all that one can do.
Going into the 2008 crisis, the banks were pretty well situated. Currently, I would say that they are even better situated because they have a lot more capital than they had. They have been really focused on liquidity. That is the good news. The bad news is that the situation in Europe is quite problematic.
Senator Stewart Olsen: You are talking about our banks.
Ms. Dickson: Yes, I am talking about Canadian banks.
Senator L. Smith: There is a lot to think about.
The Chair: Do you feel reassured?
Senator L. Smith: Not too reassured.
Senator Stewart Olsen: I do not want to put you on the spot, but how confident are you that the banks globally, even though they have signed on to Basel III, will comply with what they have agreed to do?
Ms. Dickson: Are you asking about global banks?
Senator Stewart Olsen: Yes.
Ms. Dickson: I would say that I am pretty confident, because it is a relatively new agreement. Countries that had a very bad experience in the crisis were extremely forceful in terms of insisting that this agreement be passed. They want this agreement to be implemented.
The challenge is that since then, much has happened. People are predicting a recession in Europe and growth in the U.S. is very weak. That leads to questions like yours: Will countries actually implement this? That is why this very long transition period was chosen. Between now and 2019 is a long time. There was some protection built in when Basel III was agreed to. We will see. We are very focused. We want other countries to implement because that is how you get a level playing field. It is very important to Canadian banks that banks in other countries implement the accord. The likelihood is that it will happen and, if not, we will know exactly where it is not being implemented; and we will be able to consider what to do as a result.
Senator Stewart Olsen: People can take a lot of reassurance from that.
Senator Hervieux-Payette: Maybe I will think about it before buying bonds of other countries. To complete the global picture about Basel II and III, in terms of the operation of our banks, I remember the crisis in Argentina. Do you happen to know how we can assess the risk in every country of the world that our banks are operating? They are probably in the process of looking at some acquisitions, and we have to take into account the monetary policy of these countries and aspects other than just liquidity. How do you monitor that? When they want to acquire a new bank in any country, do you have to say yes? Do they have to demonstrate how they will finance it?
Ms. Dickson: Yes. We have to approve it, and they have to show how they will finance it. They have to tell us what they will do with that business and how they will integrate it. Management information systems are always a big issue and how they will obtain information on exposures.
This is becoming a bigger issue because Canadian banks, over the last several years, are making more and more foreign acquisitions. If you are in South America, for example, and the language is Spanish, it will be a challenge. We have some Spanish speaking people, but not an army of them, for sure. We will use third parties as well. If there is a country where we want to take a look — and we do not look at every country — it will depend on the amount of business being done and how material it is to the whole bank. If we want to take a look and we feel we need some help, then we will hire a third party based in that country, which can also be helpful. That third party might be very familiar with the banking practices of the region, which could be very different than what we see here. We are pretty comfortable. The U.S., obviously, is quite easy for us; it is very close and we have good relationships with the supervisors there. That is how we do it.
Senator Hervieux-Payette: I presume, for instance, that they are regulated both by our country and the country where they operate, so they have to comply with both.
Ms. Dickson: Yes.
Senator Hervieux-Payette: We need to know that.
The Governor of the Bank of Canada has said repeatedly that he is worried about the amount of debt carried by Canadians, both on their credit cards and their mortgages. The latest figure was 157 per cent. Do you include that in your analysis of the bank? Most of these debts are borne by the banks. My mortgage is with a bank or a caisse populaire, but mostly banks in the rest of the country. Quebec is a bit different. Most credit cards are held by banks. That big worrisome debt is on the books of the banks. How do you take that into account in your risk analysis?
Ms. Dickson: The warnings sounded by the governor are important because they mean there are vulnerable households. If interest rates start to rise, especially if they rise rapidly, we could see mortgage defaults.
The higher risk mortgages are insured by the Canadian Mortgage and Housing Corporation or private insurers, which reduces the risk for the banks. When a regular mortgage is not insured, the banks have tended to be, in terms of loan-to-value ratios, relatively conservative and they insist on a relatively big down payment. I gave a speech a few months ago and we recently posted a letter on our website about this issue. We have seen some isolated incidents of a tendency to want to grow the business without the commensurate controls. It is isolated, but we are all about early warnings and intervention. We put that on our website. It was combined with the realization of the Federal Reserve announcement that they would keep interest rates low until 2013, which has created another inducement for Canadians to borrow. Rates are so low that people can take risks, which can create risks for a bank as well if it is not controlled. That is why we put out a letter to all banks a few weeks ago that emphasized the importance of controls.
Senator Hervieux-Payette: Do we have access to that?
Ms. Dickson: It is on our website, but I can send it to the committee.
Senator Hervieux-Payette: If you are not comfortable with my question, you may not answer. Who supervises the credit-rating agencies? My colleague was asking a question about the meltdown in the United States, but these products were all rated AAA. Of course, we know that this game of AAA ratings is taking place in Europe. If I were a politician in Europe, I would be worried that they might make a mistake and devalue your rating, like they did with France. I would be worried a lot.
Is there a national or international mechanism whereby these people are accountable for the kind of damages they create? They seem to fly on their own and make assessments. The most worrisome time was in Brazil when Lula da Silva was running for president for the first time and some wanted to make sure he was not elected. Brazil was downgraded to an indecent point with no reason whatsoever except political gain.
How do we politicians deal with these credit-rating agencies? We are not affected now; and I wonder why we were not affected when the interest rate in Canada was at 15 per cent. How can we monitor that? We are affected no matter what happens. Europe will affect us as well. What would you seek as a mechanism to ensure that these people are accountable somewhere to someone?
Ms. Dickson: Post-Lehman Brothers, there was a lot of focus on this, in particular in the U.S. and Europe. In the U.S., it was primarily because the major rating agencies are U.S. firms. There has been some change there, especially to their internal processes. They were worried that there were some conflicts and bad incentives, so there have been developments. Europe has talked about fully regulating rating agencies.
It has been several months since I have been asked that question, but I am sure it will come up again. I saw recently that France was launching an inquiry into one of the rating agencies that mistakenly posted a change in France's rating on their website; and they took it off a few minutes later. There is a lot of work to be done, but I do not know enough to give you the full information.
Senator Hervieux-Payette: Would you agree that these credit-rating agencies seemed to be loose cannons of sorts that no one was supervising? They were mainly Americans but globally most financial institutions and countries were affected by them. You have to pay a fee to be evaluated. France was doing some financing and had to get a rating for the instruments they were putting on the market. We have Basel III and other institutions. Should we have an institution at the international level that would ensure that these rating agencies are supervised and accountable? It was a major mistake that plunged the whole Western world into chaos.
Ms. Dickson: There are people looking at it and it is via the FSB membership and primarily securities regulators. Certainly, it is on the table. I do not recall whether they have concluded their work. The matter is being discussed, but I do not know its status.
Senator Hervieux-Payette: I want to give some information to Senator Tkachuk about Canada having avoided this problem. Quebec lost $17 billion in its pension funds because of these instruments — asset-backed commercial paper; so we were not totally immune from the bad evaluation of some products. Senator Moore was talking about it costing $150,000 to become an educated investor. The Deutsche Bank bought many as well, and I believe they are educated investors. Of course, many other banks, including French, also bought a lot of these instruments. They put one junior guy in jail in France but, in fact, they had bought many millions before that. I want on the record that we were affected but not to the same extent.
Senator Tkachuk: What does that have to do with what I said or asked, senator?
The Chair: Perhaps that could be a private discussion.
Senator Tkachuk: We are putting this on the record, but exactly what is she putting on the record that I said that she is trying to correct?
Senator Hervieux-Payette: I was not correcting. I was giving information that in terms of the asset-backed commercial paper, we seem to have been totally immune from that.
Senator Tkachuk: I asked if it was illegal, and she said, no. That was my point.
Senator Hervieux-Payette: You probably know that political staff has restrictions on working in the same sector after they leave government. Would you agree that people who are working in your institution would need a cooling-off period after they leave your institution and before they work in the financial sector? I am embarrassed by the person who is aware of what is going on in one financial institution and then the next day join another institution. The person is probably ethical, but we are talking about a system whereby officers and those at a high level in the government would join the private sector where they have the expertise the day after they leave their job. Would you recommend to our government that there be a cooling-off period?
Ms. Dickson: There is a cooling-off period at OSFI, and there is a government statute that applies to designated office-holders, although I forget the term, that would include me and senior people. We would be restricted for a period of five years from lobbying the government. We do have a cooling-off period.
I would also like to stress that we require everyone to sign confidentiality agreements. That is an important issue. Interestingly when you discuss this with banks, it is one of those issues where banks and insurance companies want private sector expertise in agencies like OSFI. It is a balancing act of trying to ensure that you can get that expertise while protecting the system and the agency when people leave.
Senator Oliver: Following up on that, if you left your job tomorrow, you would not be able to lobby the Government of Canada. Would you be allowed to leave the job as head of OSFI tomorrow and take a senior position with any of our chartered banks in Canada?
Ms. Dickson: No.
Senator Massicotte: You referred earlier to the need for increasing capital. As you know, there was an agreement in Europe two to three weeks ago relative to that same issue, whereby they will force their own banks to increase their capital contribution with the objective of Basel III, but under different timelines. In your situation, you said that Canada wants to do it by January 1, 2012.
Ms. Dickson: 2013.
Senator Massicotte: The recent agreement in Europe gave them a lot more time. As you know, you have a prudency objective, but many other people, including central banks, are worried significantly about the economy. A major impediment to the economy is a lack of liquidity in the marketplace among consumers. The funnel or the medium to liquidity is the banking system. When you and your responsibilities impose higher capital contributions, you are impeding the liquidity, especially if you give lots of time to do so. If you give them lots of time to increase their capital contribution, they will want to sell off their assets and reduce their outstanding loans, further prejudicing the stability of the economy. If you do it very quickly, what they will probably do is raise equity, which is usually not something you want to do, but at least it is less prejudice to our economy. How do you balance those two? You have a prudency concern but other people have an economic growth concern. How do you balance all that?
Ms. Dickson: To start with, it is strong banks who can lend. Going into the crisis, in the first year of it for sure, when other banks were not able to lend, Canadian banks continued to do so because they were starting from a point of strong capital.
When we were looking at Basel III, Canadian banks were pretty well capitalized. Even though Basel III is a significant increase in capital, it was clear to us they had the wherewithal to meet this demanding requirement in early 2013. When you look at the world out there, there are a lot of things going on that suggest you want to be sure you continue to have a well-capitalized banking system.
I do not think we should tell banks to take as long as they like, until 2019 if they wanted. They are lending now. I noticed recently Gord Nixon of the Royal Bank was interviewed, and he said his problem is that loan demand is not high enough.
I think we are fortunate to have a healthy banking system. They will be able to meet this new demanding standard in 2013, and I think we would all be better off if we stuck to that plan.
The Chair: I guess what we have to hope is that as strong as our financial institutions may be, the danger is posed by events outside our borders and outside our control. While we might be on a ring fence on some of them and while we may not be implicated to a considerable degree in European problems, as I think you alluded to in your presentation, if things go downhill in Europe, no matter how strong we are, it will affect us adversely.
On behalf of the committee, I want to thank you for the role you have played in ensuring the safety of Canadian investors and depositors and in conveying to Canadians generally that our financial system is well-regulated and well-capitalized and that we are doing the best we can in an uncertain world to make sure our own house is in order, and hopefully that will have an affect not only here at home but perhaps by way of example elsewhere.
Thank you again. I hope your next visit will not be three years delayed as this one was from your last appearance. We appreciate you taking the time, and we congratulate you again on the fine job you are doing. Keep up the good work.
(The committee adjourned.)