In the aftermath of the 2008 financial crisis, the G-20 empowered the Financial Stability Board (“FSB”) with coordinating the overhaul of international banking regulations. Speaking at separate events within a two day span, the heads of Canada’s top two financial oversight bodies provided their views on the important issues concerning reform both internationally and in the domestic context. Below is a summary of their respective remarks.

Mark Carney, Governor of the Bank of Canada, spoke to the Institute of International Finance (“IFF”) in Washington D.C. on September 25, 2011. His remarks sought to address three industry concerns about the reform agenda put forward by the FSB:1

  • Consistency in implementation across jurisdictions: Several new measures will help contain unwarranted differences in the implementation of Basel III rules across countries, including the new leverage ratio and enhancements to the mutual-surveillance processes of Basel Committee members, Governor Carney explained. However, he stressed that to foster a race to the top, Basel III rules have “always been, and continue to be, international minimums, rather than a ‘one-size-fits-all’ approach.”
  • The possibility of substantial regulatory arbitrage in the shadow banking system2: The regulatory responses being considered to balance the need to mitigate systemic risks and preserve the advantages of an innovative shadow banking sector must recognize that shadow banking activities evolve. “Whatever decisions are taken in the coming months, no one should be tempted to declare ‘mission accomplished,’” he said. “In order to maintain systemic resilience, the monitoring, supervision and regulation of shadow banking will need to be dynamic.”
  • The macroeconomic impact of the reforms: While the worsening global economic outlook has implications for bank performance, it does not provide a rationale for delaying the implementation of Basel III. Governor Carney noted that the timetable for implementing Basel III begins in 2013 and ends in 2019. “It is difficult to believe that prolonging this implementation phase even further would have a material impact of real economic outcomes,” he said. “If some institutions feel pressure today, it is because they have done too little for too long, rather than because they are being asked to do too much, too soon.”

Governor Carney’s comments became increasingly significant on October 3, 2011, when it was reported that federal Finance Minister Jim Flaherty is actively promoting Mr. Carney to be the next FSB chief. Unlike other central bankers, as head of the FSB Mr. Carney would attend all G-20 leaders’ summits and as such would have an even bigger influence in reshaping the global financial system for years to come.3

Julie Dickson, head of the Office of the Superintendent of Financial Institutions Canada (“OSFI”), addressed the Economic Club of Canada in Toronto on September 26, 2011. Her message highlighted three lasting impacts of the crisis on the global financial system:4

  • Consumer debt levels and real estate-based lending: Mortgage lending and home equity lines of credit are two areas of focus for OSFI, explained Superintendant Dickson, “because the global crisis showed that the consequences of weak underwriting practices in one country can be transferred globally through securitization.” The message from OSFI, she continued, “is that the current levels of interest rates have already made borrowing extremely attractive to all borrowers” and, therefore, financial institutions should guard against loosening historic underwriting practices.
  • Global Systemically Important Financial Institutions: Such institutions are those which are so large and interconnected that, should they fail, serious disruption to the global financial system and economic activity could result. “If they are kept open by governments because of their systemic importance then their management, shareholders, and investors must bear the consequences of that arrangement.” To achieve this result, continued Superintendant Dickson, the G-20 has agreed that “all non-common forms of bank capital have to be issued in the form of contingent capital, which may be written off or converted into common stock, as necessary, to prevent the issuer from becoming insolvent.” She also noted the high priority on living wills, which “require institutions to have detailed plans covering how they would deal with a crisis, and require regulators to have a detailed plan covering how an institution could be resolved in an orderly fashion if it were determined to be non-viable.”
  • Supervision: “[C]apital rules are only effective if they are accompanied by enhanced supervision.” She further explained that it may be possible for “risk-weighted assets, which are calculated by different banks on the same assets, could yield different results.” Therefore, intense scrutiny and supervision by regulators is needed in order to ensure full transparency in reporting practices.

Canadian banks and other financial institutions were relatively successful in weathering the 2008 crisis. However, the global economy remains fragile. Whether new rules can bring stability to the global financial system remains to be seen. For Canadian banks and financial institutions, the remarks of Governor Carney and Superintendant Dickson offer some insight for navigating through the uncertain road ahead.