OSFI signals more oversight over financial institutions in response to increasing risks

In a recent speech, OSFI Superintendent, Peter Routledge, described OSFI’s approach to acting early to safeguard the resilience of the Canadian financial system and outlined some of the implications for entities subject to OSFI’s supervision.

In his speech, the Superintendent described recent events that are creating a perilous risk environment for financial institutions: the level of Canadian household indebtedness, the Canadian asset imbalances, including house price-to-income ratios, climate change, the digitalization of financial services, the lingering impact of the pandemic, the Russian invasion of Ukraine, the acceleration in inflation and the crypto-asset bubble.

According to the Superintendent, OSFI’s increased regulatory oversight is necessary to prepare Canada’s financial institutions for foreseeable and unforeseeable risks.

Background

On December 8, 2022, OSFI announced that the Domestic Stability Buffer (DSB) will be set at three percent of total risk-weighted assets as of February 1, 2023. Furthermore, OSFI announced that the DSB range would be set at zero to four percent. Previously the DSB range was set at zero to two and  half percent.

The DSB, first launched in 2018, can be described as a tool used by regulators to protect the Canadian financial system against vulnerabilities and risks. The DSB acts an adjustable buffer that is applied to Canada’s largest banks, known as Domestic Systemically Important Banks (D-SIBs). It requires D-SIBs to build capital as vulnerabilities grow so that it can be used to absorb losses and support lending in times of stress.

At inception, the DSB was primarily concerned with domestic vulnerabilities that would negatively impact Canada’s financial system. According to OSFI, recent shifts in the global risk environments outlined in OSFI’s Annual Risk 2022-2023 Risk Outlook, warrant a revision to the determination of the DSB.

In the context of growing global risk, OSFI anticipates that increasing the DSB range to four percent will allow D-SIBs to absorb potential losses while still maintaining their lending ability. When describing the new DSB, OSFI’s Assistant Superintendent and Chief Risk and Strategy Officer, Angie Radiskovic, noted the following:

“[o]ur review reaffirmed that, on the whole, the DSB continues to serve as a key tool aimed at ensuring both systemic stability and the resiliency of D-SIBs. By setting the DSB level at 3%, increasing the buffer’s upper limit to 4 percent and providing more insight into the risks and vulnerabilities that inform OSFI’s level-setting decisions, OSFI is enhancing the long-term effectiveness of, and public confidence in, the capital regime.”

What does this mean for D-SIBs and other financial institutions?

In 2023, OSFI anticipates that it will take the following action to build up resilience and preparedness:

• ensure that Federally Regulated Financial Institutions remain well-capitalized, liquid, with ample buffers to absorb shocks;‎
• advance the Canadian financial system’s resilience to the physical and transition risks, and, ‎more importantly, opportunities, triggered by climate change;‎
• advance the Canadian financial system’s capacity to absorb the opportunities and risks triggered by ‎the digitalization of financial services,‎ and
• emphasize the role of governance risks.‎

In response to the new DSB range and OSFI’s increased oversight, some Canadian D-SIBs have taken to public markets to boost capital levels. It is also expected that other D-SIBs will also issue sale of shares to raise equity.