The Canadian Government is reviewing Canada’s Bank Act and its retail payments legislation in the light of the fintech revolution and open banking. Robin Arnfield reports
In August 2017, the Department of Finance published the second consultation document in its Canadian financial services legislation review, requesting stakeholder comments by 29 September. The document incorporates comments submitted by stakeholders following the August 2016 publication of the Department’s initial consultation report.
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The review is due to be completed by 29 March 2019, at which point the current Bank Act will expire. “The Department of Finance is reviewing the comments it received on potential policy measures to include in the 2019 update to the Bank Act,” a spokesperson says.
These measures are categorised as: supporting a competitive, innovative financial sector; improving bank consumers’ protection; modernising the financial sector framework; and safeguarding the sector’s stability.
Canada’s six largest banks represent about 93% of the country’s total banking assets and in 2013 they were designated as domestic systemically important banks by the Office of the Superintendent of Financial Institutions (OSFI).
Canada has 23 small and mid-sized domestically-owned banks that collectively comprise 2% of the assets of all banks in Canada.
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By GlobalDataThe Department of Finance says several hundred fintechs are active in Canada and have attracted over C$1bn in capital since 2010.
Fintechs and Open Banking
The Department is considering updating the statutory language used in the Bank Act to clarify the fintech activities banks are allowed to be involved in, while maintaining the existing ban on banks conducting or investing in non-banking commercial services. This would facilitate bank/fintech collaboration, it says.
The Department’s consultation asked whether to give banks greater flexibility to make non-controlling investments in fintechs and to make referrals to fintechs, and whether to introduce regulations for open banking.
Open banking enables consumers to share their banking information with other financial service providers.
The Department says open banking potentially facilitates consumers’ interaction with financial service providers and increases competition by streamlining on-boarding and making comparison shopping more transparent.
The Department’s consultation asked about how to streamline entry and exit processes for financial sector entrepreneurs such as fintechs targeting underserved niches, and about how small/mid-sized banks could promote competition and innovation by increasing capital formation and efficient credit allocation.
“We’re at the first stage of examining the merits of open banking, and developing an approach to consider the risks and benefits of the issue, learn from the experiences of other jurisdictions, and fully consult with stakeholders,” the Department spokesperson says.
“The Government takes the protection of financial consumers very seriously. Our goal is to ensure bank customers benefit from strong consumer protection standards. The Financial Consumer Agency of Canada is reviewing bank sales practices and will address any non-compliance with the law.
“OFSI is conducting a concurrent review focused on risk culture, the governance of sales practices, and how banks manage the potential reputational risk that’s inherent in sales activities. The results of the reviews will help inform whether further adjustments to the consumer protection framework are warranted.”
Retail payments review
In July 2017, the Department of Finance launched public consultations on a new oversight framework for retail payments. Its purpose is to extend the perimeter of Canadian retail payments supervision to cover companies not previously subject to oversight.
The framework currently focuses on Canada’s core national payment clearing and settlement systems – the Large Value Transaction System (LVTS) and the Automated Clearing Settlement System (ACSS), which processes retail payments such as cheques, pre-authorised debits and credits, debit card payments, and ATM withdrawals.
These national payment systems are administered by Payments Canada.
In addition, payments card companies and card networks are subject to the Government’s Code of Conduct for the Credit and Debit Card Industry in Canada.
Other retail payment service providers (PSPs) such as non-bank PSPs aren’t subject to a comprehensive oversight framework. “Non-traditional PSPs aren’t subject to operational requirements including mechanisms to safeguard consumer funds in the event of insolvency, specific disclosure rules or complaint handling procedures,” the Department’s consultation report notes. “This can create risks and confusion for payment service consumers who may expect similar levels of protections irrespective of the payment service provider they use.”
“The new framework’s objective is to ensure the retail payments ecosystem evolves so payment services remain reliable and safe for consumers and merchants and the ecosystem enables the development of faster, cheaper, more convenient payments methods,” the Department spokesperson says.
The Department’s proposal includes a comprehensive national registration regime and, for the first time in Canada, a definition of payments industry players through a functional approach.
“The framework’s function-based approach will ensure risks associated with a particular payment function are treated similarly regardless of the type of organisation providing the service,” the spokesperson says.
“So both traditional and new service providers such as Fintechs would be captured under the framework’s scope. The consultation paper’s comment period ended 6 October and the Department is reviewing and analysing stakeholder submissions.”
The Competition Bureau
“The Competition Bureau believes periodic reviews of legislative frameworks are important to ensure laws remain relevant, and adapt to the new realities of the marketplace,” a spokesperson for the Canadian competition regulator says.
“In the case of open banking, we’re pleased to see that the Department of Finance has emphasised competition and innovation. Regarding the Department’s retail payments review, the Bureau believes that the Department’s review of these issues can help pave the way for increased innovation and competition down the road.”
In November 2017, the Competition Bureau published a draft report on the Canadian Fintechmarket for public consultation.
“The Bank Act revision was postponed from 2017 to 2019, which is good due to the fast pace of fintech developments,” says John Armstrong, head of KPMG Canada’s financial service practice.
“Canadian banks are currently constrained as to how they invest in fintechs due to the Bank Act’s lack of clarity. We would like more clarity about their ability to invest in, and partner, with fintechs, especially with fintechs that offer technology for non-financial applications.”
Armstrong calls for clarity on open banking. “Canadian banks feel open banking causes privacy and security concerns,” he says. “With open banking, if someone is hacked, it isn’t clear who’s liable once fintechs are injected into the mix with banks. The banks feel there needs to be clarity if they open their data to fintechs about how to ensure fintechs know how to control this data.
They are talking about whitelisting, which involves specifying which platforms and fintechs meet their requirements for security. But fintechs are concerned as to what hoops they’ll have to jump through to comply with banks’ data security requirements.”
Armstrong mentions Canadian banks’ concerns, for sovereignty reasons, about using US-based cloud-hosting services. “Canadian banks and other businesses were reluctant to go to cloud when Amazon Web Services, Salesforce.com or Microsoft were just doing hosting in the US,” he says. “But we’ll see cloud take off in Canada now that these firms have started to do hosting in Canada.”
“Slow adoption by Canadian consumers”
A driver for open banking in the UK is British consumer mistrust following the bank failures during the financial crisis, Armstrong says. “But Canadian banks survived the financial crisis magnificently, and there’s a lot of trust in banks here,” he says. “So, when open banking arrives here, will Canadian consumers be willing to let their bank data be shared with non-banks and fintechs? I think there’ll be slow adoption of open banking by Canadian consumers.”
Regarding the retail payments oversight review, Armstrong says the entrance of new payments players requires an overall framework. “As there aren’t just banks anymore but also fintechs and other new entrants, the regulation’s scope must widen from banks to any organisations handling payment origination or receipt,” he says. “It should move to regulating functions rather than specific entities. We’ll see a lot happening in Canada in the next two to three years due to players entering our market such as WeChat and Alipay.”
Modernisation
Another driver for the overhaul of Canada’s payments regulatory framework is Payments Canada’s modernisation programme, Armstrong says. “Payments Canada wants to replace the LVTS with a real-time gross settlement (RTGS) system, move to real-time payment rails, and implement ISO 20022,” he says.
“Real-time payments require tighter regulations to prevent fraud, as real-time ups the ante in terms of fraud. Currently, Payments Canada is trying to decide what the timeframe is for real-time payments and what their priority is for the first item in their upgrade program to be actioned.”
Armstrong says it is easier for Canada to move to real-time payments than the US because fewer banks are involved. “The Bank of Canada is very keen on replacing the LVTS with RTGS and, when it decides to move to real-time payments, the Canadian banks can do this as one program,” he says.
Firoz Patel, CEO of Montreal-based payment services business Payza, says the Department of Finance needs to open up the fintech sector in Canada. “The Canadian MSB sector has been essentially shut down by the actions of the banks,” he says.
Patel says Canadian banks have refused to provide legitimate MSBs with bank accounts because they claim to be concerned about money-laundering, but the real reason is because they see MSBs as competitors. “They argue that Canadian regulators want them to exclude risk,” he says. “I think we need similar regulations in Canada to Europe’s PSD2 which says that European MSBs that are fully regulated cannot be denied bank accounts after PSD2 comes into play. If Canada sorts this out, we could see more MSBs moving here.”
Canadian Bankers Association
In its Department of Finance submission, the Canadian Bankers Association (CBA) said many of the open banking initiatives in different jurisdictions “appear to be addressing concerns that may not be present in Canada. Additionally, there’s a need to gauge consumer demand for third-party access which may vary across jurisdictions.
“It’s imperative that the implications and potential risks of open banking for the Canadian context be comprehensively assessed, considering the Canadian economy, before any legislative or regulatory measures are introduced.
Protecting consumers’ security and privacy will be key to any framework aimed at increasing third-party access to financial data and systems. Consideration must be given to the potential impacts on the safety, soundness and stability of the overall Canadian financial system, given the potential for third-party access to give rise to contagion, reputational and other risks with broad-ranging consequences.”
While major Canadian banks already have partnerships with Fintechs, this is a different dynamic from open banking, Christie Christelis, president of Canadian consultancy Technology Strategies International, says. “These partnerships are mutually beneficial to banks and Fintechs,” he says. “But open banking means banks would have to open their APIs to any regulatory-compliant Fintech meeting certain criteria.”
One area where there is room for disruption is business payments, Christelis says. “While consumers have various alternatives for P2P payments, businesses don’t have any real alternatives apart from the bank-operated systems,” he says. “It’s the regulations that are holding back business payments here.”
Payments Canada
“Canada’s thriving Fintech ecosystem has partnered with traditional banks to deliver innovations to consumers and businesses,” says Anne Butler, Payments Canada’s Vice President Policy, Research, Legal and General Counsel.
“The current regulatory regime places constraints on this collaboration that don’t make sense. Revisions to legislation to enable Canadian banks to invest in and support financial technology development would be a catalyst enabling the fintech sector’s true potential.”
“Given our aim of reducing friction in payments and facilitating more fluid commerce and lower business costs, Payments Canada supports the Department of Finance’s examination of open banking. But this initiative must maintain the high standards of consumer protection, security, privacy and the safety of our core payments systems provided by our current framework.”
Payments Canada is working with its members and stakeholders, the Department of Finance, and the Bank of Canada to review access to Canada’s core payments systems, in order to provide risk-based open access beyond the current participants in these systems, says Butler. Currently, only financial institutions which are Payments Canada members have access to the LVTS and ACSS.
“We expect our learnings from our modernisation review will contribute to the Department of Finance’s study of open banking, particularly with respect to financial and operational risk management criteria,” Butler says.
“We’re working collaboratively with the Department of Finance to help establish the regulatory criteria for access to Payments Canada’s systems, and to promote necessary changes to our governing legislation, the Canadian Payments Act.”
Scott Talbott, senior vice-president of Government Affairs at the Electronic Transactions Association says: “we think the Canadian Government should apply regulations that are timely and tailored to the risk profile of individual players.
Talbott adds: “regulations applicable to a major bank should be very different to those applicable to a start-up. Regulations should be tailored to different categories of risk in terms of size of player and their risk profile.
“There should be a sandbox regulatory environment for start-ups that applies light levels of regulations, and once the start-up matures it should leave the sandbox.”
The Competition Bureau is an independent agency which enforces Canada’s Competition Act.
AT-A-GLANCE
CANADA SECTOR STATS – end 2016
- Canada total bank branches: 6,190
- Number of banks in Canada: 87
- Bank-owned ATMs: 18,550
- Total transactions at bank-owned ATMs: 704 million
- Total online banking transactions completed at big 6 Canadian banks (2015): 614 million
- Total mobile banking transactions completed at big 6 Canadian banks (2015) 202 million
- Technology spend by big 6 Canadian banks in 2016: C$10.2bn
- Technology spend by big 6 Canadian banks 2007-16: C$76.5bn
Source: The Canadian Bankers Association
