Strategies for Banking Sector Modernization:Lessons from Canadian Experience

Financial Modernization Seminar

Bank of Thailand

January 22, 2002

Fred Gorbet

Director, Financial Services Program

Schulich School of Business (York University)

Agenda for this morning…

Background on Canadian financial system

Overview of MacKay Task Force

Some key implications of change and key issues outstanding

Lessons from the Canadian experience

Background: Constitution

Prudential Regulation: Banks clearly federal Credit unions clearly provincial Everything else shared (but mainly federal)

Market conduct Securities markets and licensing clearly provincial But situation re: banks not clear (current legal

challenge)

Evolution of Financial Sector

Clear importance of banks

Some world-class insurance companies, growing in importance

But no strong second-tier deposit-takers

Bank mergers a continuing, difficult issue for the industry and for the government

Relative size of major Canadian banks

0 20 40 60 80 100

BMO

CIBC

RBC

Domestic Banks

Share of Total Assets of Deposit Taking Institutions

Evolution of Financial Sector

Nature of banks is changing Capital markets are increasingly global Banks supply less than 1/3 of corporate debt Consumer risk/reward tradeoff shifting and

banks becoming increasingly disintermediated (eg., mutual funds)

Changing role of banks: deposits and mutual funds…

0

100

200

300

400

500

1995 1997 1999 2001

Personal bank deposits and mutual fund assets ($ bn.)

DepositsFunds

Key regulatory developments…

No bank failures from 1923-1985 Substantial change in late 1960’s

Deposit insurance introduced Wide ownership of banks

Two bank failures in 1985 led to reexamination of system

OSFI created in 1986

Key regulatory developments…

“Four pillars” broke down in late 1980’s

Banks bought major investment dealers

Trust and loan industry essentially disappeared in 1990 recession

1992 legislative reform effectively recognized convergence – 5 year sunset clause introduced

Recurring policy issues

Competition versus stability Regional sensitivity Community and small business access National control and ownership Rules versus discretion Regulatory overlap and duplication

Task Force established in 1996…

First comprehensive look at sector since 1967 Reported in September 1998

More than 250 submissions; 100’s of meetings; 18 research volumes; five background studies 124 recommendations.

Virtually all recommendations accepted by government and became law in June, 2001.

Basic philosophy of Task Force

Change is pervasive – needs to be managed in public interest

Change driven by technology, globalization, changing consumer preferences, and demographics.

Change would continue to lead to new competitors, pressure on existing institutions, and convergence within the sector.

Banks are roadkill on the information highwayBill Gates, 1995

What we now describe as banks, trust companies, credit unions, insurance companies, mutual fund companies and securities dealers may well be unrecognizable within the coming decade.

(MacKay Task Force Report)

Managing Change in the Public Interest Requires….

A vision – should be consumer driven

Leadership and flexibility in achieving this vision

The vision of the Task Force

Robust competition and consumer choice Successful financial institutions headquartered

in Canada and competitive at home and abroad Empowered consumers Responsible financial institutions Streamlined and effective regulation

Increasing competition

Ownership policy Foreign entry Access to payments system Easier start-up conditions Increased business powers (rejected) Capital tax holiday for startups (rejected)

Institutional Adaptability

Clear and transparent merger process Allow organizational flexibility through

regulated holding companies New definition of wide ownership to allow

strategic investments Expand range of permitted activities Remove capital taxes on financial institutions

Empowering Consumers

Improved framework for competition through empowered consumers

Disclosure/Transparency Privacy No coercion (particularly tied-sales) Easy and accessible redress through

ombudsman

Responsible Financial Institutions

Access to basic banking services Notice to close branches Annual accountability statements New framework to monitor and report on

financing of small businesses

Streamlined and Effective Regulation

Competition vs. institutional safety Make OSFI responsible for consumer

protection for federal institutions (new agency instead)

Integrate consumer protection plans (rejected) Government moved on own to give OSFI new

powers and to strengthen Ministerial oversight of payments systems

Implications of change

Much more competitive retail marketplace Intensification of convergence; banks will

continue to become “less special” Expect greater strategic diversification Major bank mergers unlikely for some time;

but holdco’s provide new options Consolidation will continue

Challenges for regulators

Manage shift in balance (competition vs. safety); mindset and culture

New rules for holding companies Are banks still special? How to deal with

“too big to fail” issue? Implications of North American integration

Key Issues Outstanding

Regulatory overlap and duplication still exist, particularly in securities markets

Implications of convergence for consumer protection plans still need to be addressed

Corporate governance; and interaction of regulators and boards

Continuing health of Canadian banks in an “over-banked” marketplace

Lessons from Canadian reform experience

Speed is important A clear vision is essential Build in flexibility of action Emphasize transparency Build an integrated regulatory structure Staff it with the right people Let them do their job and support them