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The ABCP crisis: Canadians want answers

John McCallum

Thursday, April 17, 2008

The asset-backed commercial paper (ABCP) crisis raises a simple question that is important to all Canadians: Can individuals make investment decisions with confidence in the financial system? Alberta farmer Murray Candlish, testifying before the finance committee in Ottawa last week, explained how he had invested his life savings in ABCP because he was told that such an investment was "as safe as the Canadian banking system." Now, he says, "our dreams are slowly disappearing."

Murray Candlish was in the wrong place at the wrong time. What happened to him could have happened to just about any one of us. That is why, in a rare display of non-partisanship, the finance committee of the House of Commons agreed to make this issue its top priority. In coming weeks, we will have hearings on two issues: Why did this crisis happen? And who, if anyone, is responsible? More important, we will also investigate what legislative or regulatory changes are needed to restore Canadians' faith in their capital markets and make sure such a crisis does not happen again.

While it would be naive to think that legislation can abolish fear and greed or rule out future financial crises, we should spare no effort to improve the system.

Regulations of the Office of the Superintendant of Financial Institutions (OSFI) encouraged banks to offer conditional liquidity facilities to back up ABCP markets, as opposed to the unconditional facilities that are the international standard. It is alleged that these conditional facilities, while sufficient to allow the issuance of ABCP, offered no protection at the moment of crisis, quickly undermining confidence in the market. It will be interesting to hear the response of the finance minister and OSFI to this concern.

At the provincial level, we must inquire why regulators allowed ABCP products to be sold without disclosure or effective liquidity backup, despite warnings to the contrary from the Bank of Canada, and whether it is true that they have been very slow to respond to citizen complaints.

For decades, economists have studied the phenomenon of the "captured regulator" -- whereby regulators become subservient to the industries they are supposed to regulate. A subtle form of capture occurs when a chummy atmosphere develops, leading to undue deference to the industry on the part of the regulator. To what extent, if any, have federal and provincial regulators become captured by the financial services industry? And to the extent capture has occurred, what can be done about it? Do the agencies mandated to protect individual investors or ensure they are provided with adequate information have sufficient clout and independence? Or have these agencies been "captured"?

In part, Canada's financial system is based on self-regulation. Given the ABCP crisis, is the amount of self-regulation appropriate? How were these products determined to be suitable for retail investors? Canadians need to hear from the national organization and trade association of the securities industry, the Investment Dealers' Association.

On what basis did ABCP secure a triple-A credit rating from a Canadian rating agency, but not from anyone else? Indeed, when global rating agencies refused to grant a rating to Canadian ABCP, why did everyone appear to ignore this red flag?

Would a single securities regulator have helped much in this case? Perhaps, but a single regulator is not a panacea. The U.S. and the U.K., both subject to single regulators, seem to have actually fared worse than Canada.

Subject to the limitations of the committee process, the Liberal party will leave no stone unturned to get answers to these and other questions, with a view to restoring transparency and public confidence in Canada's financial markets.

-John McCallum is MP for Markham-Unionville, finance critic for the Liberal party and former chief economist of the Royal Bank of Canada.

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