To comply with new international rules, Canada's banking watchdog will replace one of its key measures of banks' soundness.
Since the 1980s, the Office of the Superintendent of Financial Institutions has effectively required Canadian banks to hold capital equal to at least 5 per cent of their total assets.
This rule, known as the assets-to-capital multiple, is being scrapped in favour of the leverage ratio proposed by the Basel Committee on Banking Supervision, which oversees global banking regulation. The leverage ratio requires banks to hold capital amounting to at least 3 per cent of their total assets.
While this minimum is lower than OSFI's 5-per-cent figure, the new leverage ratio will be more restrictive for banks. The calculation of total assets will include more securities, such as off-balance sheet derivatives. The definition of capital has been narrowed to include only common and preferred equity.
By complying with the minimum 3-per-cent target, OSFI is taking a somewhat unusual stance. On major bank safety issues, the Canadian watchdog often goes above and beyond the Basel minimums. For instance, in a sister calculation to the basic leverage ratio, the Basel Committee requires banks to hold capital that amounts to 7 per cent of their risk-weighted assets; OSFI goes further, forcing Canadian banks to meet an 8-per-cent minimum.
OSFI's decision also contrasts with proposals from U.S. regulators, who have proposed a minimum leverage ratio of 5 to 6 per cent for U.S. banks.
"We couldn't move in lockstep … because there are differences between our financial system and their financial system," Mark Zelmer, OSFI's deputy superintendent, said at a conference in Toronto. He sits on the Basel Committee for Banking Supervision, so is he fluent on capital ratio issues.
Canada is distinct from many other countries, he said, because the mortgage market here "carries healthy government guarantees." Although the banks' mortgage exposure is large, many of the loans are backed by the federal government, so they carry little risk for the financial institutions that hold them. That, he said, allows OSFI to mandate a lower minimum leverage ratio than the U.S. proposal.
Mr. Zelmer added that OSFI is closely watching the U.S. decision. "At the end of the day, we'll be paying pretty close attention," he said, adding that OSFI can always decide to bump up its minimum ratio at a later date.
Canada's banks will have to comply with the 3-per-cent ratio by 2015 – two years earlier than the 2017 implementation date set by the Basel Committee. Most observers expect them to have no trouble adhering to the rule.
"We're not concerned about the leverage ratio," National Bank chief executive Louis Vachon said at a conference Tuesday.