Canadians deserve homegrown banking regulation

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On Friday afternoon, when many Canadians were lost in weekend thoughts or already on their way to the cottage, Canada’s bank regulator — The Office of the Superintendent of Financial Institutions — announced it will delay for one year implementing the final elements of the Basel III accord.

Unlike the United States, the European Union and the United Kingdom — jurisdictions that all endured significant bank failures in the 2007-2008 financial crisis — Canada has been leading the implementation of Basel III at the cost of hundreds of millions of dollars to Canada’s banks, despite being the one jurisdiction that distinguished itself during the crisis for the stability of its financial system and the least likely to benefit from change.

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Recall that Basel III is an accord devised by central bankers and bank regulators from 28 countries in the wake of the financial crisis that was published in 2010. It outlines new common capital rules that in theory should help avoid another disaster like the one in 2007-2008. The rules and methodologies behind them are complex — they involve significant technological investments and material changes to the way our banks measure, report and manage financial risk.

For Canadians, these changes impose an even more conservative framework on our chartered banks. It will reduce bank lending to consumers and businesses by an estimated nine per cent of nominal GDP. In short, the Basel III changes will de-bank many Canadians and businesses, forcing them to find credit from more expensive and less regulated financial service firms that operate outside the banking sector — or go without it altogether.

At a time when more than two million mortgages are expected by the Canada Mortgage and Housing Corporation to be up for renewal this year and next, OSFI’s delay is welcome news for consumers, and for businesses enduring low to non-existent economic growth.

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Yet, the most intriguing part of OSFI’s news release was not the delay, but this assertion: “On May 13, 2024, Group of Central Bank Governors and Heads of Supervision (GHOS), the oversight body of the Basel Committee on Banking Supervision (BCBS), unanimously reaffirmed their expectation of implementing all aspects of the Basel III framework in full, consistently and as soon as possible.”

One is left to wonder what was served with the canapes at the May 13 meeting that generated this supervisory kumbaya for Basel III. The accord was drafted in 2010 and both the EU and the U.S. have by their actions opposed its implementation, despite the lip-service offered by central bankers and supervisors. But even that lip-service is fading.

After Basel III was proposed by U.S. regulators last July, 97 per cent of the official comments from U.S. banks, businesses and concerned parties opposed it. Jerome Powell, the head of the U.S. Federal Reserve, said the opposition is “unlike anything” he has seen. But that is not all he said. In March this year he told members of Congress “We do hear the concerns and I do expect there will be broad material changes to the proposal.”

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Powell was not engaging in hyperbole. On Tuesday,  Powell confirmed in testimony to the U.S. Senate Banking Committee that the “broad and material changes” to Basel III are almost complete, and that he expects to “put a revised proposal out for comment for some period.” In plain-speak, the U.S., watered-down version of the Basel III rules will go through another year of review before the final regulations are settled upon and implemented — at some distant date.

And why the changes? Because the impact on the U.S. economy as the Basel III rules are written is simply unacceptable to U.S. businesses and the broader public. Even some high-profile U.S. officials on the Board of the Federal Reserve — Michelle Bowman and Christopher Waller — voted against implementing Basel III because it would harm borrowers.

These are the same rules OSFI and the Bank of Canada want Canadian banks to abide by.

That Basel III has come to this is not a surprise to the historian. Regulatory change succeeds when the iron is hot. Canadian government bank inspection was first raised in 1880 and was discussed with various degrees of enthusiasm until the 1923 failure of the Home Bank of Canada. Within a year legislation was passed and by 1925 government bank inspection finally came to Canada.

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What is surprising is OSFI’s sanguine attitude towards Basel III. Just as surprising is the apparent lack of interest Canada’s Finance Department has taken in the entire implementation of the change, which has significant economic implications for the country. Of concern too is the failure of Canadian banks to effectively battle against a set of capital rules that will clearly hurt Canadians. The time for polite advocacy behind the scenes is over.

Basel III was written when the 2007-2008 financial crisis was fresh in people’s minds. Fourteen years later, the U.S. long ago implemented its own response to the crisis (Dodd-Frank) and it is obvious to the honest observer that the U.S. will materially change Basel III to suit its current needs or will scrap it altogether — a likely reality if former U.S. president Donald Trump is returned to office this November.

Canadians deserve a made-in-Canada regulatory regime. The conversation now should not be limited to delaying Basel III but include rolling back various elements already adopted to ensure Canadian consumers, businesses and banks are not hobbled by rules written for jurisdictions where strong banks and effective supervision are stretch goals.

John Turley-Ewart is a regulatory compliance consultant and Canadian banking historian.

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