Pressure grows for OSFI to back off tougher banking rules #CanadaFinance

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Canada’s banking regulator could come under renewed pressure to back away from an international regime requiring tougher capital rules for big banks after the U.S. Federal Reserve signalled it will cut previously announced increases in the capital cushion in half.

Fed vice-chair Michael Barr said this week it was determined that rather than the 20 per cent increase that some banks would have faced, a more lenient increase of around nine per cent would do the job for the country’s largest banks.

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The backtrack followed months of push-back from U.S. banks, who argued that setting aside more capital would severely crimp the amount of lending they could do to everyday businesses and borrowers.

Barr said final determinations have not been made, but banks that are more active in trading and capital markets activity are going to face more capital requirements than those that simply make loans.

Now all eyes are on Canada’s bank regulator, the Office of the Superintendent of Financial Institutions (OSFI), which pushed ahead last year with new capital requirements for the country’s biggest banks, the latest instalment of an international reform framework put in place after the 2008 global financial crisis.

With a series of delays and objections from U.S., European and UK banks, OSFI agreed in July to a one-year delay in phased-in increases to the capital floor level, a key measure meant to ensure internal risk models don’t stray too far from a standardized approach.

That alone had the potential to crimp lending and reduce bank earnings potential, according to a June report by veteran bank analyst Gabriel Dechaine of National Bank Financial. But it is the prospect of an uneven playing field with global competitors that is among the biggest concerns for some Canadian bankers.

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Last spring, when the Fed first suggested lightening the load for U.S. banks on the strict final stages of the international risk management regime, Dave McKay, CEO of Royal Bank of Canada said Canadian regulators, too, should rethink capital requirements imposed on the country’s largest financial institutions, particularly in light of delays on implementation in Europe.

“We cannot get out of sync with our two major competitive markets, Europe and America,” McKay said at the time. “A level playing field is really important.”

He explained that higher capital requirements in Canada would make Canadian banks uncompetitive in jurisdictions where domestic banks faced less-stringent capital rules — because Canadian banks would either have to charge more for loans or take lower returns — and he urged OSFI to “rethink” the decision to roll out the regulations ahead of other countries if they do not follow.

OSFI, for its part, responded to questions about the U.S. policy backpedalling this week by pointing to its July decision to delay in the implementation of the capital floor increase.

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“The purpose of the one-year delay was to give OSFI time to consider the implementation of Basel III reforms in other jurisdictions,” the regulator said in a statement. “Consistent with this announcement, OSFI continues to monitor implementation progress across jurisdictions.”

However, as in July, the Canadian regulator made a point of noting that it is not alone in remaining committed to implementation of the Basel rules and the “sound prudential principles” underlying the reforms. The internationally backed Group of Central Bank Governors and Heads of Supervision reiterated its support in May.

“These reforms will strengthen banks’ ability to withstand financial shocks and support economic growth while enabling them to compete and take reasonable risks,” OSFI said. “We will continue to measure implementation progress of the Basel III 2017 reforms across jurisdictions with a focus on both competitive balance in banking and the soundness of Canada’s capital regime.”

John Aiken, a bank analyst and head of Canadian research at Jefferies, said OSFI has taken a separate approach to the Fed in the past, so that while there is no way to know what they will ultimately do, the July pause gives the Canadian regulator some flexibility.

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“We will probably get some news a couple of months before the current stay of execution expires,” Aiken said. “It is not their style to react to other countries’ reports …. However, given the recent pause announced by OSFI, this will likely extend it until there is greater certainty of where the Fed is heading.”

RBC’s McKay declined an interview request to elaborate on his views in light of the fresh developments in the U.S. bank capital regulation. The Canadian Bankers Association referred questions to OSFI. In July, the CBA said it was looking forward to further information from the Canadian regulator in light of its review of the implementation of capital reforms in other jurisdictions.

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