January 10, 2012

On December 28, 2011, the Office of the Superintendent of Financial Institutions Canada (OSFI) sent a letter to the Department of the Treasury, the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation and the Securities and Exchange Commission, all in the United States, concerning the Volcker Rule. The Volcker Rule aims to restrict the ability of United States banks to engage in proprietary trading and their relationships with hedge funds and private equity firms. Despite its support of the objectives of the proposed restrictions, OSFI, with a focus on Canadian banks and the Canadian financial system, has expressed concern that the current draft of the proposed restrictions could inadvertently hinder foreign bank risk management practices and undermine the ability of foreign banks to efficiently manage their liquidity. 

United States-owned financial system infrastructure, such as The Depository Trust & Clearing Corporation, United States financial exchanges, Bloomberg and the custodial services provided by major United States banking groups, play critical roles in support of market-making activities in Canada of Canadian financial institutions and their risk management activities in Canada and the United States. OSFI is concerned that the draft regulations may have the unintended consequence of significantly impeding Canadian and other foreign financial institutions' ability to manage their risks in a cost-effective manner leading to prudential concerns in Canada.

In terms of liquidity, the proposed restrictions would only allow proprietary trading by banking entities in United States treasury, state and municipal general, limited and pass-through obligations. As many foreign banks play important market-making roles in the trading of government securities in their home jurisdictions and rely on such securities to efficiently manage their liquidity and funding requirements at a global enterprise-wide level, OSFI suggests that additional exemptions from the restrictions on proprietary trading should be given to foreign government securities, at least for banking groups whose parent is located outside of the United States. A failure to include such exemptions would undermine the liquidity of government debt markets outside the United States.

The comment period on the Volcker Rule proposal has been extended to February 13, 2012.