Finance Committee on June 16th, 2008

[The Chair, Conservative, Rob Merrifield]

Committee, there's too much noise here.

Okay, go ahead.

[Jean-Yves Laforest, Bloc, Saint-Maurice—Champlain, QC]

I don't entirely agree with the views of the person who spoke before me, who said that we should not necessarily consider what happened elsewhere, but rather focus on what's going on here, or what has happened here. I think that this is a worldwide phenomenon.

Mr. Crête asked you if things were better in other countries. Basically, even if some countries have national securities commissions, the crisis happened anyway.

What makes a difference here is that the Montreal Accord has made it possible to stabilize the situation quite quickly, and to see what we can now do. Not having a national securities commission has not prevented us from doing that. This is something which must be pointed out clearly.

That said, I am wondering about the Bank of Canada's role. Does the bank have the instruments it needs to prevent this sort of situation? Among other things, does it have the instruments to support the Montreal Agreement?

[Tiff Macklem]

You might have to put that question to the Bank of Canada.

The Bank of Canada's role on money markets is to establish monetary policy. It is responsible for keeping the short-term liquidity market running smoothly. That's how it implements its monetary policy. That's what it has committed to do ever since the crisis began.

They've provided more liquidity to the market and expanded the term over which they can provide liquidity. They've expanded collateral. As part of the budget bill, the statutes of the Bank of Canada are being expanded to give them the capacity to take broader types of collateral.

The Bank of Canada's mandate is to keep the system secure, but it is not responsible for the actions of individuals or companies.

[Jean-Yves Laforest, Bloc, Saint-Maurice—Champlain, QC]

Thank you.

[The Chair, Conservative, Rob Merrifield]

Thank you very much.

Mr. McKay.

[John McKay, Liberal, Scarborough—Guildwood, ON]

Thank you.

We don't allow a pharmaceutical to hit the market unless the Department of Health has signed off on it, yet we allow a security to hit the market based upon a rating produced by a company that is dependent upon the issuers of those securities for its revenues.

Does that strike you as a very serious flaw in our system?

[Tiff Macklem]

I take from your question an implication that there are some conflicts of interest here and that therefore this may not be entirely appropriate.

In terms of the rating agencies, certainly one of the lessons out of this global crisis, as reflected in the FSF report and the IOSCO code of conduct for credit rating agencies, which was published on May 28, is the need to resolve issues around potential conflicts. The main one is this issue about credit rating agencies advising companies and at the same time rating the subsequent issue. There are new rules that say that if you advise on the structure you cannot also be the rater.

There is a broader debate about conflicts in credit rating agencies; for example, about who should pay the credit ratings, the issuers or the investors. That's a difficult one, because there are issues on both side. If investors paid, for example, they might not be too thrilled to have a downgrade. As in any of this kind of oversight role, where there are payments being made there are issues, and the key is to manage those.

[John McKay, Liberal, Scarborough—Guildwood, ON]

Is there a role for the Department of Finance in its broader stewardship of fiscal and, to a lesser extent, monetary framework? Is there a role for the Department of Finance, if not to bring in-house, at least to take over, if you will, a supervisory regulatory role and in effect set ethical standards and probably regulatory standards for how you go about rating a security?

[Tiff Macklem]

As you know, the Department of Finance is not a regulator. I must say, I myself don't see making the department a regulator as the solution. I think what we want to do is make sure that the regulators we have are—

[John McKay, Liberal, Scarborough—Guildwood, ON]

But the department does take supervisory responsibility for OSFI and various other agencies. It doesn't do it itself, but—

[Tiff Macklem]

We have some broader stewardship and oversight responsibilities, absolutely.

With respect to the issue of credit rating agencies, I can tell you we have been talking to credit rating agencies. We've met with them. We have been discussing these issues with them. We have been discussing how they are themselves responding to this and how they plan to respond to the FSF and IOSCO code of conduct. We are engaged in these issues.

With respect to credit rating agencies themselves, this would fall more in the domain of the provincial securities commissions.

[John McKay, Liberal, Scarborough—Guildwood, ON]

It seems to me that when you've—

[The Chair, Conservative, Rob Merrifield]

I'll explain to you what I'm going to do.

I'll give you another quick question. Then we're going to go to one party for two quick questions, or two minutes at the most, and for two minutes to another. Then we're going to have 10 minutes for an in camera session at the end.

Go ahead.

[John McKay, Liberal, Scarborough—Guildwood, ON]

It seems to me that this crisis, for want of a better term, took in pretty well the most sophisticated investors in our country. Just go through the list of the people who were in on it: Barrick Gold, the University of Western Ontario, 401 International, Transat A.T. Inc., NextStart. It's a list of the who's who of Canada, and they were taken in on this product.

Yet, when you started to work out your Montreal Accord, what was curious about the list was that the big banks, mainly Toronto-based big banks, were not on the workout sheet. They may have been monitoring or following it, but they were not involved. The ones who actually signed were in many instances foreign-based banks. It's a curious kind of workout.

That led to its own anomaly, in that the initial proposition basically gave the back of the hand to smaller investors. But by good luck more than good management, the smaller investors have one vote, and there are far more of them than of the larger investors. That effectively forced you to redo Mr. Crawford's initial proposal.

The argument has been that the market worked, but really the market worked by accident more than by anything intentional. If in fact the vote had been weighted according to the size of their investment, those retail investors would have been out of luck.

[The Chair, Conservative, Rob Merrifield]

I'll allow a quick answer to that, and then we'll move on.

[Tiff Macklem]

I think all parties had a real incentive not to let this fall apart and force a fire sale of assets. I think in that respect that kept everybody at the table through a difficult negotiation process, working to a solution that nobody is happy about, but it's better than the alternatives and I think overall is a good solution.

[The Chair, Conservative, Rob Merrifield]

Thank you.

Mr. Menzies.

[Ted Menzies, Conservative, Macleod, AB]

Thank you, Mr. Chair.

I know, Mr. Macklem, you may not be able to answer this, but we did hear some very troubling comments from some of the smaller investors—I don't like to use that term, but some of the private investors—who told us they didn't even know what they were buying, and some of them didn't know they owned this. It's not that they bought it; they didn't know they owned it. Those, I think, were some of the most troubling comments we heard. I know there's nothing you can do about that, but those are the sorts of things that we don't want to see happen again.

This isn't the first time. One of our other witnesses, Larry Elford, talked about other instances where financial advisers really have no constraints. They could promise the moon when they know full well they can't deliver the moon.

What do we put in place? Your last line here says, “There are a number of important issues that you could usefully explore.” What do you mean by that? What can we do to make sure this doesn't happen to Canadians again?

[Tiff Macklem]

Maybe I could answer your question in two parts: what are some of the things we can do to protect investors, and then, what could this committee usefully do?

In terms of protecting investors, absolutely, that is a key interest of the federal government. Getting back to the Hockin panel, an important aspect of what they've been asked to do is to look at investor protection, and in particular how to enhance enforcement in this country of securities regulation.

Another thing I think we can do is try to enhance financial literacy in this country. In the last budget, the government provided some funding to the Financial Consumer Agency of Canada. The B.C. Securities Commission had created a very nice course for high school students on financial literacy, so the idea was for the FCAC to create a web-based product for all Canadians to try to improve financial literacy.

I think those are two examples: improving people's understanding, and then enhancing enforcement so that if people are not living up to the standards they should be, they will be prosecuted.

[The Chair, Conservative, Rob Merrifield]

Thank you.

I'll leave two quick minutes for Martha Hall Findlay.

[Martha Hall Findlay, Liberal, Willowdale, ON]

Thank you.

In your own submission here, you referred to:

A unique feature of the Canadian market as it existed prior to August was that most ABCP...were supported by “General Market Disruption” lines...rather than the deterioration of creditworthiness of the issuer or its assets. This left the Canadian ABCP market more exposed to the risk that investors would be unwilling to roll their paper at maturity.

We all understand that. My question to the superintendent earlier was left, I must say, somewhat unanswered, because this was indeed a unique feature of the Canadian market. It was recognized before August, or perhaps should have been recognized before August, and the answer that OSFI is only responsible for protecting deposits does not address, then, why it was OSFI that did the recommendation that the zero capital charges for market disruption liquidity lines be removed. If it was OSFI that after August made a point of recommending that we go to global liquidity lines, why is it not then arguable, at least, that OSFI had some responsibility to address or to at least understand the risk associated with the unique nature of the Canadian market?

[Tiff Macklem]

I thought I'd answered that question.

Really, all I can say is that what became apparent through this process, as the superintendent explained, is that just because a bank had only committed to general disruption liquidity lines and the conduits are legally separate entities, in the event, they decided—I assume, for largely reputational reasons and to the benefit of investors—they would back them.

This hadn't happened before. When it did happen, what it illustrated to the superintendent is that even though legally they were under no obligation to do so, they chose to do so, which suggests that in the future they would probably choose to do so again, and therefore the distinction between these two in terms of capital charges needed to be changed.

[The Chair, Conservative, Rob Merrifield]

Thank you very much.

Thank you, Mr. Macklem, for coming in and sharing with us. This isn't the last we're going to hear on the asset-backed commercial paper issue, I'm sure, but I certainly do appreciate you giving us your insight and for the questions.

With that, I'd like to suspend for a moment while we go in camera.

[Proceedings continue in camera]