April 22, 2008 at 12:03 PM EDT
Canada's banking regulator took the unusual step of holding a news
conference yesterday to defend its role in the country's $32-billion
frozen commercial paper market, and appeared to be subtly suggesting
that blame should be spread among a number of players.
Julie Dickson, head of the Office of the Superintendent of Financial
Institutions (OSFI), told reporters in Toronto she's satisfied the
regulator "did the right thing."
"Our primary job is to protect the interests of depositors," she
said, noting that banks hold the life savings of Canadians.
That's why the regulator's rules are designed to protect the financial
health of banks, not of investors in third-party asset-backed commercial
paper, she suggested, as she sought to systematically respond to critics
by outlining why OSFI did what it did.
The regulator has come under fire over a rule that has been blamed for
allowing some banks to decline to make emergency funding payments to
commercial paper conduits when the market seized up in August.
The $32-billion market for Canadian commercial paper created by
so-called "third-party" companies, such as Toronto-based Coventree Inc.,
collapsed when investors fled out of fear of possible exposure to U.S.
subprime mortgages. The larger market for commercial paper created by
banks continued to function, albeit with hiccups.
In the midst of the chaos, third-party ABCP conduits turned to banks -
many from overseas - and asked to tap into prearranged emergency lines
of credit. But many banks denied the requests, citing a clause in their
deals that said funds only had to be provided during a "general market
disruption" (GMD). The banks argued that because the bank-sponsored
market was working, the whole market had not been disrupted.
Investors across the country have now been stuck holding billions of
third-party ABCP for eight months.
The GMD clause only became widely used in Canada. OSFI has been sharply
criticized for a rule, known as guideline B-5, that's been blamed for
encouraging the use of the clause. The rule said banks did not have to
set aside extra capital if the GMD clause was in their deals.
The regulator said yesterday that its guideline was "prudent and
necessary." The idea was to transfer risk away from banks.
OSFI pointed out that Canadian banks did not use the GMD clause in the
United States, even though B-5 applied to them there as well.
"Presumably the frequent ... use of general market disruption lines by
bank-sponsored ABCP conduits in Canada reflected the fact that high
ratings were possible in Canada even" with the GMD clause in the deal,
the regulator said. Canadian credit-rating agency DBRS was the only
agency that agreed to rate commercial paper with the clause.
Ms. Dickson stressed that she was not blaming any one player.
"I think the marketplace has learned a lot of lessons," she said. "You
have to understand what you're buying."
But the regulator did appear to point some fingers.
Documents given to reporters note that the responsibility for protecting
Canadian investors lies with the provincial securities commissions. "The
securities commissions have rules to protect investors buying
securities. ABCP was a security, but because it was structured as a
short-term, highly rated debt instrument, it was exempt from Securities
Act disclosure requirements."
Third-party creators of the paper used the GMD clause exclusively, and
it was accepted by sophisticated investors, OSFI said. The clause made
emergency credit lines less expensive, allowing companies to profit as
investors received a higher yield.
The House of Commons finance committee will be holding hearings into the
ABCP issue, and Ms. Dickson said she looks forward to those.
She was a part of the Financial Stability Forum group that recently made
recommendations to the Group of Seven finance ministers on changes that
should take place in the wake of the liquidity crunch and recent market
Some of the recommendations, including those dealing with transparency
and more disclosure by rating agencies, could be beneficial in
preventing a recurrence of the ABCP situation, she suggested, as will be
new global banking regulations - known as Basel II - that deal with
"Investors could not figure out what they owned," she said, adding that
needs to be fixed. She also said that more disclosure by rating agencies
might help investors to realize when they're getting into a complex area
that requires more attention.