Office of the Superintendent of Financial Institutions
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 and maintained in our June DSB announcement.
The DSB is one of several capital buffers that Canada’s systemically important banks or D-SIBS have in place to guard against risks. Its countercyclical design requires these banks to build up capital during good times so they can draw down on that reserve in times of economic stress.
At the onset of the pandemic, Canada had one of the largest such buffers in the world.
In making today’s decision, OSFI looked closely at a number of vulnerabilities and risks to the banking system.
Since OSFI’s June DSB announcement, COVID-related risks have persisted. At the same time, interventions such as government policy actions, loan deferral programs, and measures to support the resilience of financial institutions have moderated the pandemic’s impact on the financial system.
These actions supported the market stabilization and economic recovery observed throughout the summer and into the fall.
While the Canadian economy has shown encouraging signs of recovery, progress has been uneven across sectors. Accordingly, we continue to monitor several key vulnerabilities including Canadian household and corporate indebtedness, as well as asset imbalances.
These areas of vulnerability remain elevated but are currently stable.
Looking outside of Canada, we also note that uncertainty in the global economic outlook remains high and therefore, we continue to monitor the potential for spillover of external risks and vulnerabilities to the Canadian financial system.
The current 1% DSB level remains effective in supporting the resilience of the banking system by allowing banks to absorb losses while continuing to provide loans to creditworthy households and businesses.
The release of the DSB in March signaled clearly to banks and to market participants that a measured decline in capital ratios would be an appropriate and prudent response to a downturn in the economy.
Following the release of the DSB, the banks’ second quarter capital ratios declined. Provisions increased, as expected under the new IFRS 9 accounting standard, to reflect the change in the economic outlook. At the same time, lending grew to support borrowers.
This is a prime example of how the capital regime should work during a downturn, one where the banking system is able to absorb economic shocks rather than amplify them.
In reducing the buffer in March, OSFI also committed that no increases would take effect for at least 18 months, until September 2021, to ensure that banks were given ample time to restore their buffers.
More recently, Canadian banks’ capital ratios have trended upwards with pre-provision net revenues having held up well.
Against this backdrop, the current DSB level of 1% remains effective and appropriate.
The experience of the last few months has clearly shown that the Canadian banking system was well prepared for this crisis.
Canada’s banks have demonstrated resilience through the pandemic, and have continued to provide loans to support borrowers, while maintaining robust capital levels.
A well-capitalized banking system supports financial stability because it helps to cushion, rather than amplify, financial shocks. Such a system is well-positioned against an uncertain outlook or a sharp downturn in the economy.
Currently, Canadian D-SIBs’ capital levels exceed pre-pandemic levels. That is good news because if the economy does turn for the worse, there is ample capital available for the banking system to be able to continue its shock absorber role.
Looking ahead, recent news about COVID-19 vaccines is promising. Nevertheless, OSFI is continuing to monitor the environment closely in light of the ongoing uncertainty around the severity of the pandemic’s second wave as well as the potential for a slow and uneven recovery.
OSFI is prepared to respond promptly and release the DSB further if we see signs that risks have re‑emerged.
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 a normal course stabilizing action, and a sign of a well-functioning and effective capital regime.