COVER

THE GLOBALIZATION GAME

DEIRDRE McMURDY February 2 1998
COVER

THE GLOBALIZATION GAME

DEIRDRE McMURDY February 2 1998

THE GLOBALIZATION GAME

COVER

Canada's banks are tiny by world standards

By Friday evening, John Cleghorn’s thoughts had turned to three objectives: a bowl of soup, a chat with his wife of 35 years, Pattie, and a long walk in the fresh snow with his two golden retrievers. “I can’t wait to get home,” he muttered softly under his breath, at the end of another interview. Small wonder: the chairman of the Royal Bank of Canada had spent the entire day in the hot glare of camera lights, explaining to employees, reporters and regulators why he was proposing to merge Canada’s largest bank with the third-largest, the Bank of Montreal. But the crux of his case lies in the cold, competitive global capital markets—far from the cozy comforts of home.

Over the past decade, the nature of the banking business has been profoundly altered by global trade, sophisticated new technology and the ever-shifting demands of customers. In response, the financial services industry has undergone a massive worldwide rationalization. The reason: the larger the bank, the greater its advantages in developing new products and services, building infrastructure, upgrading employee training—and cutting costs.

Between 1987 and 1997, international bank mergers totalled $1.4 trillion by market capitalization. In the United States, the number of banks has declined by a third in the past decade.

“Banks have become electronic delivery mechanisms,” says CIBC senior vice-president John Pattison. “Size and economies of scale have become the name of the game.”

So far, the federal Bank Act has kept Canadian banks on the sidelines. Regulations and long-standing government policies block them from merging and, the banks argue, from maximizing their efficiencies. To compensate, they have combined their chequeand documentprocessing functions and expanded internationally: Scotiabank has invested in Latin America and Southeast Asia, the CIBC has bought into Wall Street, the Toronto Dominion Bank has acquired discount brokers in the United States and Australia.

For Cleghorn and his counterpart at the Bank of Montreal, Matthew Barrett, the concern of being left behind in size and efficiency has recently turned into

fear. Among other things, the banks worry about their ability to service large corporate and institutional clients. Canada’s domestic capital market—the total value of all publicly traded securities—now represents just two per cent of the available capital in the world. That is too small to meet the demand of growing Canadian companies, which means that borrowers must compete to obtain funds in the global capital pool.

It also means that Canadian banks are up against rivals like Citicorp, which has a bigger market capitalization than all five Canadian banks combined. Even nontraditional lenders, such as GE Capital, the financing arm of General Electric, have 19 times the market clout of Canada’s secondlargest chartered bank, the Canadian Imperial Bank of Commerce.

Another competitive pressure stems from the increased sophistication of modern financial markets, which have become a preferred source of financing for large corporations because of the lower costs and huge consumer demand for equities. In Canada, traditional bank loans declined to 17.5 per cent of Canadian corporate financing in 1995 from 50.4 per cent in 1980. Currently, about 46 per cent of corporate financing is accomplished through the issuing of securities. Meanwhile, the share of the corporate market held by non-bank lenders—such as GE Capital and Toronto-based Newcourt Credit Group—has climbed to 36.5 per cent in recent years.

Retail banking has not been immune from global competition either. Foreign entrants to the Canadian market, including the Dutch giant ING, can offer lower-cost service because they rely on relatively inexpensive telephone banking technology. Last year, San Franciscobased Wells Fargo entered the market by offering direct-mail loans to small businesses. Says CIBC’s Pattison: “They use telephone or computer banking exclusively and that gives them a huge advantage. They don’t have to pay for all those small-town bank branches in Saskatchewan.” That explains why the Royal and the Bank of Montreal felt it necessary to do what they did—and also why many Canadians, including regulators, will be reluctant to accept it.

WORLD'S LARGEST BANKS By market capitalization

1. Lloyds TSB Group $102 billion

(Lloyds Bank and TSB Group merged in 1995)

2. Bank of Tokyo-Mitsubishi $98 billion

(Bank of Tokyo and Mitsubishi Bank merged in 1996)

3. HSBC Holdings $88 billion

4. NationsBank $84 billion

5. United Bank of Switzerland $82 billion

(Union Bank of Switzerland and the Swiss Bank Corp. announced a merger in December, 1997)

6. Citicorp $79 billion

7. BankAmerica Corp. $69 billion

8. Chase Manhattan Corp. $65 billion

9. First Union $64 billion

(First Union Corp. and Corestates Financial Corp. announced a merger in November, 1997)

10. Barclays $63 billion

22. Royal Bank/Bank of Montreal $39 billion

DEIRDRE McMURDY