In what seems to be an effort to extort Canada for additional benefits, Donald Trump complained yesterday on social media that CANADA DOESN'T EVEN ALLOW U.S. BANKS TO OPEN OR DO BUSINESS THERE. And so according to Trump, Canada doubly deserves to be disciplined with tariffs.
Well, if it's true that U.S banks aren't allowed to do business in Canada, then why in god's name is one of the U.S.'s largest banks doing business in downtown Toronto?
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| Citigroup Place, 123 Front St. West, Toronto, Ontario, Canada |
Citi has been operating in Canada since 1919 and currently has 1,700 Canadian employees. According to OSFI, Canada's bank regulator, the bank earned C$35 million in Canada in the first three quarters of 2024 and has C$5.49 billion in Canadian assets as of September 30, 2024.
In short, Trump was either lying, misinformed, crazy, or some combination of those three.
Canada allows foreign banks to enter our banking industry by requiring them to set up a domestic subsidiary and applying for a Schedule II banking charter. Schedule II banks can operate in all of the same lines of business as mainstay Canadian banks (i.e. Schedule I banks) like Royal Bank or Bank of Montreal. There are 16 Schedule II banks in Canada, three of which are American. (In addition to Citi, the other two are Amex Bank and JP Morgan.)
Some folks on social media tried to reinterpret Trump's complaint: "But JP, what Trump really meant to say is that Canada doesn't allow U.S. banks to serve retail customers." As proof they cited the fact that if you walk into a Citi office in Canada, Citi won't allow you to open a personal chequing account.
The reason that Citi won't give you a personal chequing account isn't because the rules prevent them from doing so. Rather, Citi (along with Amex and JP Morgan) have chosen not to enter the Canadian retail banking market, preferring to focus instead on other types of Canadian banking, like commercial and investment banking. If Citi, for instance, wanted to set up a retail branch network, it could. In fact, Citi once had a small five-branch retail banking network in Vancouver and Toronto, offering personal chequing and savings account, term deposits, loans, mortgages, mutual funds and RRSPs. But it sold out in 1999 to Canada Trust, which was ultimately bought by TD Bank.
Other foreign banks have also set up Schedule II banks with a retail presence, only to sell out to domestic banks. HSBC Canada, owned by its British parent, became Canada's seventh largest bank—one that was notably successful in offering mortgages to retail customers—but was recently offloaded by its parent to Royal Bank, a Schedule I bank. ING Canada, owned by Dutch-based ING Bank, created one of Canada's most popular discount retail banks, ING Direct, but sold it to Scotia Bank in 2012, which rechristened the discount bank Tangerine Bank.
The lone Schedule II foreign bank I'm aware of that still serves retail customers is ICICI Bank, which is owned by its Indian parent.
Why are U.S. and foreign banks reticent to compete in Canada's retail banking market? Contrary to perceptions that Canadian banking is slow and lazy, it's actually quite difficult to make much headway in Canada. The Big-5 banks, plus National Bank, which counts as half a big bank, have built strong retail branch networks that span the entire country. They compete rigorously for consumer deposits, offering higher interest rates than U.S. banks offer to Americans, suggesting a more cut-throat market than south of the border. In short, U.S. banks don't have the cojones to cross the border and compete head-to-head against Canada's more competitive behemoths. Citi already tried. It gave up.
By contrast, the U.S. is an easier market for a foreign bank to enter because its banking industry is more fragmented. And many Canadian banks have entered, with TD Bank and Bank of Montreal occupying 10th and 13th spot respectively on the list of largest U.S. banks. This fragmentation is the residue of the U.S.'s refusal (until recently) to allow banks to set up branches across state lines. By contrast, Canada has always had fairly permissive rules about establishing cross-country banking networks. The irony here is that Trump's complaints about lack of openness best apply to the U.S., historically the culprit when it comes to tamping down the spread of banking.
Canadian banks' U.S. and international exposure has increased over time. A recent Bank of Canada study finds that our banks now have more foreign liabilities (i.e. deposits) than domestic liabilities. (See chart below). More precisely, 57% of all Canadian banks' liabilities are now foreign. As for our banks' asset mix, foreign assets are poised to surpass domestic assets in the next year or two, if trends continue.
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| Rising Canadian bank exposure to the rest of the world. Source: Bank of Canada |
The reason for this outward migration is clear. Canada's saturated retail banking market offers few opportunities for growth, but other parts of the world are less saturated, and so these jurisdictions offer Canadian banks ideal avenues for acquisitions and growth.
This gives us an additional vantage point for viewing Trump's absurd comments about Canadian banking. He may not be saying that Canada's banking system is closed, but that the U.S. banking system is now effectively shut off to additional acquisitions by Canadian banks, as part of some sort of America First banking policy. This implicit threat of a foreign banking blockade may explain, in part, why the price of Canadian bank stocks fell so much more than the broader Canadian market yesterday. Their avenues for growth may have just narrowed.
Very enlightening, JP. Thank you.
ReplyDeleteThanks, Paul.
Delete1. Using the rates that TD pays on its US and Canadian franchises is highly selective. TD pays 0.01-0.02% on first dollar savings in the US, while BMO and CIBC offer as high as 4% and 4.28% on the first dollar respectively on their online-only products. Why? Becasue BMO and CIBC are following the EQ Bank strategy of trying to capture deposits from customers who don't hold their transaction account there, which is more effective in the US as US bank customers have a much higher propensity to split their business across multiple firms. Meanwhile, TD has made no attempt to pursue this business (nor has RBC, Natbank or Desjardins Bank).
ReplyDeleteThe Big 4 US banks famously pay the absolute bare minimum interest they can by law (they legally have to express it in at most two decimal places, and they coincidentally pay 0.01%). But US customers are much more likely to have checking at one (or multiple) banks, savings at another bank, a mortgage from a non-bank lender and credit cards from multiple lenders, a diversification that is possible because these products offer lower fees, lower minimums and/or better returns than their Canadian banking counterparts.
2. "The lone Schedule II foreign bank I'm aware of that still serves retail customers is ICICI Bank, which is owned by its Indian parent."
Bank of China (Canada), CTBC, Habib, KEB Hana, SBI Canada and Sinhan Bank all also offer personal accounts. (What all these banks have in common is obvious.)
3. "Why are U.S. and foreign banks reticent to compete in Canada's retail banking market? Contrary to perceptions that Canadian banking is slow and lazy, it's actually quite difficult to make much headway in Canada. The Big-5 banks, plus National Bank, which counts as half a big bank, have built strong retail branch networks that span the entire country. They compete rigorously for consumer deposits, offering higher interest rates than U.S. banks offer to Americans, suggesting a more cut-throat market than south of the border."
DeleteTo be clear, JP, are you arguing that the fact that new entrants have struggled to compete with the Big 6 is evidence that Canada does not have an oligopoly?
Analyst reports about Canadian banks regularly have snippets like the one below (from Morningstar):
"We argue that bank moats are derived primarily from two sources: cost advantages and switching costs. We see switching costs in the Canadian system as driven by a tightly regulated oligopolistic market structure that limits excess competition, thereby stabilizing product pricing and giving customers less incentive to switch banks. We see cost advantages as stemming from three primary factors: a low-cost deposit base, excellent operating efficiency, and conservative underwriting, with regulatory costs a final factor to consider... We believe the Canadian banking environment offers systemic cost advantages leading to returns above the cost of capital, allowing the main banks operating under its jurisdiction to possess moats. Barriers to entry for the Canadian banking system are very high. Existing regulations prevent foreign competition, as non-Canadian residents may not own more than 25% of the shares of a bank unless approved by the government (preventing foreign takeover), and foreign banks can only operate in Canada under certain restrictions (preventing significant direct foreign competition). Domestic competition is also controlled, as Canada’s banking system historically developed to favor [sic] a few large banks controlling the majority of the domestic market, and this is actively enforced through the handling of chartering by the federal government exclusively."
Donald Trump is performing the idiot's version of a critique of Canada's banking system—"they don't allow our banks to compete there"—when the smart version, the one that is borne out when looking at concentration measures, the trajectories of attempted entrants and the conclusion of sector analysts, is that there are significant structural disadvantages to any bank, foreign or domestic, competing at scale with the Big 6, and many of these barriers are regulatory.
You cite: "...and foreign banks can only operate in Canada under certain restrictions (preventing significant direct foreign competition)."
DeleteWhat are the specific restrictions that prevent U.S. banks from competing with Canadian ones using a Schedule II charter? Ok, I'll grant that a U.S. bank probably can't gain a foothold by purchasing one of the big-5 (and the same probably goes for a Canadian bank trying to buy a top-5 U.S. bank.) But I doubt JP Morgan or Wells Fargo would have been prevented from buying, say, HSBC Canada when it went up for sale.
Apart from takeover provisions, I don't think there are any specific restrictions that prevent, say, Chase setting up a branch network here in Canada, as Citi once tried. US banks are on the same legal keel as a Canadian bank when it comes to pursuing such a strategy.