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Peter Rutledge on Banking Regulation (Audio) · Bloomberg Intelligence

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  Speaker 1: You're listening to Taking Stock with pim Box and Kathleen
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  Speaker 1: as a long Blueberg Radio. We are at the fourth
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  Speaker 1: annual Canadian Fixed Income Conference. It is sponsored by National
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  Speaker 1: Bank of Canada Financial Markets. National Bank of Canada Financial
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  Speaker 1: Markets is the soul bank whose primary focus is the
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  Speaker 1: Canadian marketplace. And here to tell us more about banking
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  Speaker 1: in Canada is Peter Rutledge. He is Managing Director Financial
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  Speaker 1: Services Research at National Bank Financial Peter Runtlings, thank you
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  Speaker 1: very much for being with us. Thanks for for having
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  Speaker 1: me explain to our listeners some of the major differences
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  Speaker 1: about the composition and structure of the Canadian banking system
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  Speaker 1: versus let's say, what we may be familiar with here
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  Speaker 1: in the United States. Well, I mean, the most important
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  Speaker 1: thing to understand about the difference in the system is
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  Speaker 1: how they developed over time. Canada, going back to the
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  Speaker 1: start of the country, has always had a branch banking system,
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  Speaker 1: so a few large banks located in the center of
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  Speaker 1: the country who have branches all across the country. We've
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  Speaker 1: had the equivalent of interstate banking since the country was formed,
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  Speaker 1: whereas in the United States you have a state based,
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  Speaker 1: unit based banking system that only recently became UH nationwide.
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  Speaker 1: And so as a result, we've long had very large,
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  Speaker 1: systemically important financial institutions control our banking system and as
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  Speaker 1: and those institutions have been quite profitable, and that profitability
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  Speaker 1: has acted to stabilize the system. And they and we've
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  Speaker 1: had generally UH much fewer banking crises and bank failure.
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  Speaker 1: So since about UH nineteen sixty seven, when our deposit
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  Speaker 1: insure came into force, there's only been about thirty five
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  Speaker 1: to forty bank failures. It's amazing. And in fact, during
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  Speaker 1: the financial crisis, many people pointed to Canada to say,
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  Speaker 1: you don't need lots of banks to have a stable
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  Speaker 1: banking system. How are the are the rules different? Are
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  Speaker 1: the Canadian banks regulated differently? Have you eminated the problem
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  Speaker 1: of too big to fail? Or is the government just
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  Speaker 1: always ready to step in and so you're you you
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  Speaker 1: keep them on a tighter leash? How do you make
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  Speaker 1: it work in Canada? Right? Well, I think there's general
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  Speaker 1: acceptance that we have six systemically important institutions. They've long
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  Speaker 1: been systemically important, and they have long been too important
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  Speaker 1: to fail. UH. Since up until the financial crisis, the
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  Speaker 1: authorities sort of accepted a public backstop, So the sovereign
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  Speaker 1: in effect was always there as a last resort backstop
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  Speaker 1: to the banking system. Since the crisis came and went, UH,
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  Speaker 1: the Canadian regulatory system has adopted or is in the
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  Speaker 1: process of adopting UH global banking regulatory rules around too
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  Speaker 1: Important to Fail. And now they're trying to bring in
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  Speaker 1: a private sector backstop to the banking system to replace
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  Speaker 1: the public sector. What is the trade off if you
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  Speaker 1: have a government that is implicitly and almost explicitly being
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  Speaker 1: the backstop, what are the banks trading off in order
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  Speaker 1: to live under that umbrella? Um? Establishing a private system
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  Speaker 1: brings in private actors who UH will be acting in
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  Speaker 1: their own coninecial self interest and they may be they
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  Speaker 1: may behave unpredictably and so that it introduces an element
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  Speaker 1: of risk into the system now and that didn't exist
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  Speaker 1: when the public sector was the backstop. So that's you know,
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  Speaker 1: what the public sector will have to adapt and they're
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  Speaker 1: they're adapting the regulatory system for that reality. The benefit
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  Speaker 1: of it though, is, you know, if the public sector
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  Speaker 1: is the backstop, typically the public isn't really aware of that,
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  Speaker 1: and so when you have the public sector enter in
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  Speaker 1: to protect the payment system that becomes UH. You know
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  Speaker 1: that that that UH annoys people, annoys the general public
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  Speaker 1: for understandable reasons because they don't understand they have that
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  Speaker 1: contingent risk. What this STEM does is it says to
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  Speaker 1: private sector investors in advance x ANTI before there's a
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  Speaker 1: banking system crisis, you know you're taking that risk, and
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  Speaker 1: you can ask to be compensated by the banking systems
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  Speaker 1: for taking that backstop risk. And that is a better,
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  Speaker 1: a better way to do it. Couple things I hope
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  Speaker 1: we can touch on in the couple of minutes we
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  Speaker 1: have left. The first one would be capital, contingent capital.
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  Speaker 1: How Canadas deal that? In a in a nutshell, what
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  Speaker 1: is different about Canada right now? That is so important
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  Speaker 1: for investors to understand. US banks have a holding company
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  Speaker 1: company model, and there they're issuing contingent capital through their
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  Speaker 1: holding company structures and and moving it into the operating company.
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  Speaker 1: Canadian banking system is structured on an operating company model only,
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  Speaker 1: so we're having to design contingent capital within the operating company.
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  Speaker 1: And it just means the conversion mechanism, the recapitalization mechanism
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  Speaker 1: is different. Housing and we've been speaking to people throughout
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  Speaker 1: the conference about the housing market in Canada, and there
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  Speaker 1: are some surprising differences between let's say, take out a
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  Speaker 1: mortgage in Canada and taking out a mortgage in the
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  Speaker 1: United States ext pin UH. Some of the differences are
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  Speaker 1: the longest amortization term is now twenty five years. You
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  Speaker 1: can get thirty year mortgages, but basically the standard for
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  Speaker 1: higher risk mortgages it's twenty five years. UH. Second, there's
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  Speaker 1: no tax deductibility for mortgage interest payments. People are incentive
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  Speaker 1: financially always to pay down their mortgage and that does
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  Speaker 1: make a difference. Finally, the Canadian sovereign through UH a
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  Speaker 1: mortgage insurance subsidiary UH, basically absorbs or takes on the
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  Speaker 1: credit risk in the mortgage system. So if we had
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  Speaker 1: a big housing price correction and there are a lot
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  Speaker 1: of losses around mortgages, it would flow through to the
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  Speaker 1: mortgage insure that is a sovereign ntity, and so there
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  Speaker 1: would not be any uh you know, risk around capital
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  Speaker 1: in the banking system tied to only a house of
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  Speaker 1: price correction. Well, so thank you for walking us through
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  Speaker 1: the Canadian banking industry. Some of the key regulations, how
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  Speaker 1: they're changing how they're working. Peter Rtgage, thank you so
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  Speaker 1: very much for joining us. He's Managing director for Financial
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  Speaker 1: Services Research at National Bank of Financial We're live at
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  Speaker 1: the National Bank of Canada Financial Markets Canadian Fixed Income Conference.
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  Speaker 1: I'm Kathleen Hayes along with Pen Fox. This is Limberg