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The auction of HSBC Canadian banking unit is expected to fetch upward of $10-billion.Fred Lum/The Globe and Mail

The once-in-a-generation sale of HSBC Bank Canada, the country’s seventh-largest lender, is forcing the federal government to define the future of domestic banking even though it would much rather focus on other issues.

Politicians, regulators and bankers were blindsided last month when London-based HSBC Holdings put its highly profitable Canadian subsidiary on the auction block. HSBC Canada’s affluent retail customer base and solid commercial lending franchise attracted interest from every domestic bank; the final price is expected to be upward of $10-billion.

Simple math dictated the deal is Royal Bank RY-T of Canada’s to lose. No other potential bidder can match the capital and potential cost synergies available to the country’s largest bank.

Why selling HSBC Canada, the country’s most lucrative bank deal in decades, is unusually challenging

That’s why the government is suddenly faced with important decisions. If it allows RBC or Toronto-Dominion Bank TD-T to buy the HSBC subsidiary here, Canada becomes a country with two dominant domestic lenders and a handful of much smaller rivals, rather than six big banks.

A generation ago, TD vaulted to the top ranks by acquiring Canada Trust from a foreign seller for $7.8-billion. The sale of HSBC Canada will dictate the landscape for decades to come. The field of suitors is already narrowing. Last week, The Globe and Mail reported Canadian Bank of Commerce CM-T and National Bank of Canada NA-T are already out of the running.

The government’s views on competition in banking are a mystery. In fairness, that reflects two very different roadmaps for ensuring the banking sector’s role in a strong economy.

RBC and TD executives can argue that if the foreign owner of a second-tier grocery chain or auto insurer – with market share comparable to HSBC Canada’s – sold a subsidiary, and a market leader such as Loblaw or Intact Financial made the best bid, regulators would approve the deal in a heartbeat. In key sectors such as groceries, airlines, rail or telecom, the largest companies hold far higher market share than in banking.

Bankers who work anywhere other than RBC or TD say Ottawa should follow the U.S. example when deciding HSBC Canada’s fate. Under U.S. President Joe Biden, regulators are taking a hard line against concentration.

The key data guiding the government’s decision on HSBC Canada’s sale is market clout, measured by the banks’ share of domestic loans and deposits. By these standards, HSBC Canada is a pipsqueak. The bank makes approximately 2 per cent of loans, including mortgages, and holds 3 per cent of deposits, according to data from its regulator, the Office of the Superintendent of Financial Institutions.

The leading player, RBC, holds a 21-per-cent share in both deposits and loans. TD is close behind, at 19 per cent of loans and 18 per cent of deposits.

Dominant U.S. banks have significantly smaller customer bases, as a percentage of a far larger market. The two largest competitors – JPMorgan Chase & Co. and Bank of America – hold 16 per cent and 15 per cent of deposits, respectively. Both grew through acquisitions in the past, as part of a government-approved consolidation of a fragmented sector.

However, in the past decade, U.S. regulators shut down domestic acquisitions by the biggest U.S. players in order to encourage competition. The policy opened the door for acquisitions by Canadian lenders – Bank of Montreal BMO-T and TD are both in the process of acquiring regional U.S. banks.

Where will the Canadian government come down? No one is certain. Given the precedents set by the Canada Trust acquisition and other transactions, analysts are confidently predicting RBC can win approval for an HSBC takeover.

Yet the tone in Ottawa is changing. The government is reviewing the laws governing takeovers. Last month, the head of the federal Competition Bureau, Matthew Boswell, made it clear the regulator is concerned with the growing clout of a few domestic companies. In a speech to the Canadian Bar Association, Mr. Boswell said: “Current provisions enable high levels of economic concentration – even monopolies – in the Canadian economy. This is out-of-step with what other comparable countries are doing.”

RBC is the natural buyer of HSBC Canada, and would have solid arguments for government approval of a takeover. Yet as rivals will point out, any deal that makes our largest bank significantly larger flies in the face of policies meant to encourage competition.

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