Andrew Moor is the president and chief executive officer of EQ Bank, and Michael Mignardi is general counsel.
Deposit insurance provided by the Canada Deposit Insurance Corp. is an important contributor to the stability of Canada’s banking system. If a participating financial institution goes under, CDIC ensures that people’s savings are insured up to a certain amount and remain accessible.
That’s why it is concerning that nearly 20 years have passed since the last time a federal budget (2005) increased coverage for Canadians to $100,000 per insurable category, up from $60,000 with the cost borne by participating financial institutions.
While $100,000 may sound sufficient, it is far lower than other developed countries, and that figure has been eroded by inflation, which reduces purchasing power and the value of money – making a limit of $100,000 even lower in real terms.
Although Canadians enjoyed a decade of low interest rates, and equally low (but not zero) inflation, we may tend to forget or underestimate the broader impact of inflation since 2005. If we had simply used the Consumer Price Index to keep the same real level of protection in place, Canada should – by now – have increased CDIC insurance limits to over $140,000 per category, just to keep up with the times.
Looking further afield, we see that Canada’s level of deposit insurance protection lags most of the rest of the world, including a range of advanced economies such as Australia with coverage of 250,000 Australian dollars ($231,200), the United States at US$250,000 ($335,830) and the European Union at €100,000 ($143,000).
Why does deposit insurance matter? Without getting lost in economic theory, this question has been answered in research published by Douglas Diamond and Philip Dybvig, two winners – along with Ben Bernanke – of the 2022 Nobel Prize (in economic science).
While Mr. Bernanke is known for his study of the Great Depression of the 1930s and later as the chairman of the U.S. Federal Reserve, Mr. Diamond and Mr. Dybvig’s contributions centred on the value of deposit insurance to the financial system. Mr. Diamond and Mr. Dybvig demonstrated that deposit insurance reduces the risk of bank failures with modest cost to governments supporting these schemes. In part, the Diamond-Dybvig model demonstrates that deposit insurance can quell panic and reduce the likelihood of bank runs.
In practice, failures on the part of financial institutions have affected two million depositors since the CDIC was created by Parliament in 1967. No one under CDIC protection lost a single dollar – and we would argue that the Office of the Superintendent of Financial Institutions and CDIC have done a laudable job in recent years in, respectively, overseeing institutions to reduce the risk of failure and improving the effectiveness of the deposit insurance regime to reduce the risk of loss even further.
For most Canadians, to be sure, bank-account balances are below even today’s CDIC insurance limits, meaning they are already well-covered. However, certain life events – such as receiving a modest inheritance or coming to Canada with one’s life savings – can push us to limits well over the current protection offered. This is particularly true for those saving for the sizeable down payment necessary to buy a first home. Every Canadian would be well-served by an increase, as would small businesses.
Many small businesses have a need for a cash float of over $100,000 and really should not need to think about the safety of the banking system in managing their affairs. Even a modest increase in deposit insurance protection for small businesses could be an active signal of support for this critical sector of our economy.
And how much should the CDIC insurance limit increase to? To be clear, setting the right level of deposit insurance protection is as much an art as science.
The optimal level of coverage is large enough to achieve what is called the stable Nash equilibrium that is the conclusion of the Diamond-Dybvig paper while avoiding the moral hazard potential of limits that might encourage excessive risk-taking. The appropriate level certainly should be high enough that the vast majority of individuals, and especially those operating small businesses, do not need to consider CDIC coverage limits in managing their day-to-day financial affairs.
Our proposal: How about $200,000 in 2023 being an appropriate level to allow Canadians to continue to enjoy a resilient banking system and allow Canada’s deposit insurance system to hold its head up high when compared with our global peers?
The Canadian banking system has been strong and resilient for many years – for which Canadians are justifiably proud. The institutional frameworks surrounding banking, of which deposit insurance, through CDIC, is a key component, are part of the reason.
In order to keep our banking system strong and resilient, 2023 should be the year in which we increase the coverage limits provided by CDIC.