Julie Dickson, the federal superintendent of financial institutions.Fred Lum/The Globe and Mail
Canada's banking regulator is preparing to lift a two-year-old constraint that has pushed the country's banks to preserve excess capital instead of using it to increase dividends, buy back shares or make acquisitions.
Heading into meetings in Basel, Switzerland, next weekend, Canada's Superintendent of Financial Institutions, Julie Dickson, said that if talks go well, the regulator will start drafting a plan to let the banks off the leash, after two years of abiding by the directive.
"I think the air is going to start to clear fairly soon," Ms. Dickson said in an interview Tuesday.
The move will have significant implications for banks and investors, since it will dictate how much surplus money is available to be paid out to investors, or reinvested in expansion or acquisitions.
Though not an official order, Canada's largest banks agreed to a suggestion by the regulator in December, 2008, that they all preserve capital while awaiting new global requirements for the industry.
The new rules will require banks to hold higher levels of capital than they have in the past, in order to backstop their lending and trading operations and hopefully avoid another financial crisis. Since the freeze was put in place under the direction of the Office of the Superintendent of Financial Institutions (OSFI), Canada's banks have boosted their surplus capital, leaving them potentially with considerable funds to deploy once they are freed from the restriction.
At this weekend's meetings, bank governors and superintendents from around the world are expected to agree on how much capital banks are expected to hold going forward. Before the crisis hit, banks were required to hold 4 per cent of so-called Tier 1 capital. In Canada, the requirement from OSFI was 7 per cent, but all of the major banks are now well into double-digit percentages.
Once a number has been agreed upon in Switzerland, Ms. Dickson said OSFI will begin preparing a new directive for the industry, which will essentially replace the freeze announced by the regulator two years ago.
The move will likely come before the banks were expecting, since Ms. Dickson said it is not necessary that OSFI wait until G20 meetings in Seoul where the new capital rules will be finalized.
Rather, it is more likely the banks will be free to deploy their surplus capital in the next month or two.
"I would anticipate doing that definitely this fall," Ms. Dickson said. "We understand that uncertainty is not good, so OSFI would like to clarify things as soon as possible."
The topic of dividend increases has become a key issue among bank shareholders, since Canada's major lenders haven't increased their payouts in two years or more, depending on the bank. Bank CEOs have been cautious on the topic, wanting to signal to investors that they are eager to deploy surplus capital into investments or dividends, but not wanting to make any promises because they don't know the new capital requirements yet.
"We're hopeful that we will be able to nail that down this weekend," Ms. Dickson said. "I think that there will be a lot of interest in that, because all the banks are seeking clarity on dividends. And at this point, it's been difficult to be clear - even though some banks have talked about it - it's been difficult to be clear because you don't know what levels of capital are going to be required."
After releasing their third-quarter earnings recently, the heads of Canada's large banks were cautious on how they approached the subject. Royal Bank of Canada, Toronto-Dominion Bank, Bank of Nova Scotia, Canadian Imperial Bank of Commerce and Bank of Montreal each said they were waiting to see what the new requirements are before thinking about how to deploy their surplus funds.
"The problem is it's very dangerous to come out with anything now because you could be wrong," RBC chief executive officer Gordon Nixon said in an interview. "You really can't say until you get a clear line of sight."
Should OSFI move ahead with its plan, it would be sooner than some of the banks were expecting. BMO CEO Bill Downe said in a recent interview that he didn't expect to get clarity until late 2010. "I think we're gong to get, if not certainty, a high level of confidence by the end of this calendar year," he said, referring to BMO's capital plans.
Bank of Nova Scotia CEO Rick Waugh said in an interview that the banks are waiting for OSFI's guidance from the regulatory reforms taking place. "They're in control of the agenda and we'll just have to respond to that," he said.
National Bank of Canada signalled to analysts that it wanted to raise its dividend as soon as possible, which drove up its share price by 10 per cent in an indication of investor appetite for higher payouts.
However, the progress depends on how swiftly the bank governors and superintendents can come to an agreement this weekend on the new minimum capital requirements.
"We very much hope we can do that. It is a contentious issue though," Ms. Dickson said. "Each country has had a different experience in the crisis, so they bring a different perspective. It also depends on the kind of banking system you have. Asian banks tend to have a lot of capital, not huge trading operations, whereas U.S. and Western Europe tend to have a model where there was a lot more investment … Canada is sort of in between those two."
OSFI is concerned about raising the capital requirements too high, since Ms. Dickson said she fears that will result in banks being encouraged to take more risks to make the higher returns they saw when the restrictions were lower.
"There are some who get false comfort let's say from high capital levels, but I think from my perspective, if they're too high, you've created another problem and that is not good either," she said.
However, Canada is in favour of higher capital requirements, particularly since its banks made it through the crisis relatively unscathed by holding more capital than U.S. and European banks. Ms. Dickson was cautious not to put an exact date on when the banks would be given the new directive from OSFI, but said it would be relatively soon if there were no complications at the meetings.