Opening notes for technical briefings on the Domestic Stability Buffer, June 23, 2020

Domestic Stability Buffer announcement

Today, OSFI announced that the Domestic Stability Buffer, or DSB, will remain at 1% of total risk-weighted assets, unchanged from the level set on March 13.

OSFI has determined that the current DSB level remains effective in supporting the resilience of the banking system, while allowing banks to continue providing loans and services to Canadians.

OSFI’s decision is based on

  • the effectiveness of the DSB reduction in March
  • assessments of vulnerabilities and risks to the large banks
  • impacts of COVID-19 policy measures

The DSB is one of several capital buffers that Canada’s six largest banks have in place to guard against risks. Its countercyclical design requires banks to build up capital during good times so they can draw down on that reserve in times of economic stress.

The March DSB reduction has been effective

On March 13 — as we began to see signs of stress due to COVID-19 — OSFI reduced the DSB from 2.25% to 1%. This decision provided banks with roughly $300 billon in lending capacity to support the ongoing flow of credit to Canadians.

The large banks have continued to extend business and consumer loans, and that lending remains within the estimated increased capacity.

The banks entered this crisis from a position of strength and both the quantity and quality of their capital remains strong. The average common equity tier 1 capital ratio is 11.2%, as recently reported in banks’ second quarter results, down slightly from the previous quarter. This remains well above OSFI’s current expectation of 9% for the large banks.

During a downturn, OSFI expects to see measured declines in bank capital ratios. This is a strong sign of a well-functioning capital regime and a signal that banks are using capital buffers as intended. This is why we indicated in March that any increases to the buffer will not take effect for at least 18 months following the release.

Vulnerabilities remain elevated and outlook is uncertain

The assessment of vulnerabilities and risks to the large banks is also key to today’s decision. Since the March DSB release, risks associated with the pandemic, such as lower output and employment, have materialized.

Vulnerabilities related to household and corporate indebtedness remain elevated, in part due to the pressure that the pandemic has put on some business and household incomes. Asset imbalances are also elevated and it is uncertain to what extent asset prices will adjust to economic conditions. OSFI is also monitoring the possibility of spillover of external risks into the Canadian financial system.

At the same time, reassuring signs of economic reopening have begun. The outlook remains uncertain and OSFI is monitoring vulnerabilities and looking for more signs of risks to emerge. OSFI is prepared to release the buffer further, if conditions warrant.

Policy measures are having an important impact

The overall impact of the pandemic on the economy is difficult to predict. At the same time, substantial fiscal and monetary policy responses are helping to cushion shocks to the financial system and support the economy through a period of significant stress. Other regulatory policy adjustments implemented by OSFI have also helped promote stability and resilience in the financial system.

Looking ahead, OSFI will continue to monitor the effectiveness of the March DSB release, levels of vulnerabilities and risks, and the impacts of other COVID-19 policy measures.

OSFI remains committed to setting the DSB in a transparent manner to ensure it is widely understood. In doing so, we expect that any decision to decrease or draw on buffers when needed will be seen as the normal course, a stabilizing action, and a sign of a well-functioning and effective capital regime.

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