Adjusting to Globalization: Challenges for the Canadian Banking System

The mid-1960s were the good old days for Canadian bankers before the Canadian banking system was opened up to foreign competition. Now it is a whole new competitive ball game as Edward P. Neufeld points out in his paper on the challenges that globalization poses for the Canadian banking system. He argues that the ability of Canadian institutions to withstand increasing foreign competition will depend on their economic efficiency relative to that of the encroaching competitors. In his view, the forces that have facilitated globalization of financial services have also made obsolete past measures of economies of scale and of the “optimum” size of financial institutions, and past guidelines concerning excessive domestic market concentration are no longer reliable. For Canadian financial institutions to experience solid growth in the future will require them to be internationally competitive at home and abroad. But unfortunately they have been slipping down the list of important international financial institutions as measured by the size of their assets and of their capital bases, and as a result their non-interest costs are 10 to 20 per cent higher than they would be if mergers were permitted. Otherwise, the forces of globalization will generate a persistent tendency towards increased foreign ownership of Canadian financial institutions, as has already begun to happen, and towards an increase in non-Canadian executives running them. Neufeld is very concerned that Bill C-8, which is the new legislation reforming the financial service sector passed this year, contains discrimina- tory measures that will undermine the international competitiveness of the Canadian banking system. These include: a restrictive and politicized bank merger policy, which risks preventing Canadian banks from achieving the economies of scale that their much larger international competitors are achieving; the continued prohibition against the distribution of life insurance through bank branches, which directly restricts competition in the Canadian market; the continued exclusion of the banks from the car leasing business, a business almost completely dominated by foreign institutions; and the threat in the bill directed at the large Canadian banks, and not at smaller competing institutions or foreign institutions located in Canada or entering the Canadian market through the Internet, that if they do not provide certain low-cost services they will be forced to do so. In Neufeld’s view, the most glaring weakness of the new policy as concerns competition is its failure to recognize clearly that by far the most important source of future competition will be large international institutions operating directly in Canada and through the Internet from outside Canada. He regards the merger process as flawed in that it is tortuous, and therefore inevitably subject to long delays, and risks being hostage to short-term political considerations. Neufeld believes that the key question that needs to be addressed is not whether Canadians will get the world-class financial services they require, because international competition will ensure that, but whether the services will be provided by Canadian banks or foreign financial institutions.