Proposed Bank Mergers Will Result in Savings of Between $29 and $88 Billion Over 10 Years

Translates into savings between $1,000 and $3,000 over 10 years for each Canadian

Contact:

Jason Clemens, Policy Analyst
The Fraser Institute, (604) 714-4544 Email: jasonc@fraserinstitute.ca

Release Date: 9 September 1998

VANCOUVER, BC>>> The proposed mergers between the Royal Bank of Canada and the Bank of Montreal, and the Canadian Imperial Bank of Commerce and the Toronto Dominion Bank could result in savings of between $29 and $88 billion over the next 10 years-if allowed to proceed unimpeded by the federal government-according to a study released today by The Fraser Institute.

The study, Bank Mergers: The Rational Consolidation of Banking in Canada, concludes that given the gains in efficiency, advances in technology and the increasing competitiveness of the financial services market, the federal government should allow the proposed mergers and impose no stipulations regarding branch closures or employment. According to authors Jason Clemens, Marc Law and Fazil Mihlar, "the research evidence suggests that the proposed mergers will improve efficiency. Increases in efficiency will translate directly into savings of between $1,000 and $3,000 over 10 years for each Canadian. In other words, the bank mergers make sound economic sense."

The Results of Integration: Employment & Real Wages Up

One of the interesting findings of the study, according to its authors, is that employment and per employee real wages and benefits increased between 1988-1997, despite a severe recession in the early 90s and two periods of integration with brokerage houses and trust companies.

Employment in the ‘Big Five’ banks expanded by 16,260 full-time equivalent positions, representing an annual average increase of 1 percent. More importantly, real or inflation-adjusted per employee wages and benefits increased by almost 7 percent per year.

"The empirical evidence simply does not support the rhetoric of opponents who argue that there will be huge, permanent job losses. There may be transitional jobs losses and displacement but this can be accommodated by natural turnover and attrition. In the longer term, if past history is any guide, the employment and wage outlook is positive," says Fazil Mihlar, Director of Regulatory Studies at The Fraser Institute.

Increasing consumer access through technology

The savings estimates are based solely on efficiency gains from the rationalization of the branch banking system. The rationalization of the branch banking system is already underway, although with much less efficiency than under the proposed consolidation.

The number of Big Five branches in Canada (adjusting for overseas branches and the integration of trust-acquired branches) has actually declined from 6,192 to 5,665 between 1988-1997,a decrease of 8.5 percent. In fact, the Big Five have not increased the number of branches to keep pace with increases in the population. On a per capita basis, the branch system has deteriorated substantially from 4,344 people per branch in 1988 to 5,345 people per branch in 1997-a 23 percent increase in the number of people per branch.

This consolidation has not, however, led to a decrease in service or accessibility. Service and accessibility have increased through alternative delivery systems such as ABMs, telephone banking and Internet banking. The number of ABMs operated by the Big Five has increased from 4,373 in 1988 to 13,291 in 1997; representing a total increase of almost 204 percent. The Big Five have also experienced an explosion in the number of telephone and Internet customers: 5.9 million and 1.6 million, respectively. As the number of households with computers increases (currently at 32 percent) no doubt the number of bank customers using technology as a banking option will also increase.

Contestable Markets: The Key to Consumers Gaining the Benefits of Consolidation

Current competition law ignores the role contestable markets can play in forcing industries with high levels of market concentration to behave competitively. In other words, says Mr. Mihlar, "the mere threat of competition will induce existing financial institutions to behave as if they were in a competitive market." The authors state that, "regulatory barriers to entry in the financial services market, especially those placed on foreign competitors such as the subsidiary requirement, domestic capitalization, and ownership restrictions must be eliminated if the benefits of consolidation are to flow through to the consumers."

Operational Difficulties in Defining a Market

"In the final analysis, whether or not the post-merger firms will possess too much market power has nothing to do with market power per se, and everything to do with how the market is defined," said Mr. Mihlar. Market concentration is clearly a function of how the market is defined rather than any objective measure of market concentration. For instance, in the case of Canadian fixed income mutual funds, depending on the particular market definition, market concentration is calculated to be anywhere between 6.7 and 44 percent.

The Parameters of the Discussion are too Narrow

The authors warn that the current discussion is far too narrow and misses important aspects of the restructuring process. The study specifically recommends that the pending de-mutualization in the insurance sector should be included as a central element in the discussions. Important secondary aspects of the sector, such as the future role of the Canadian Deposit Insurance Corporation and the Canadian Payments Association must also be considered in the current debate. "The key to ensuring an efficient financial services market which will guide Canada into the next century is a broad discussion of the entire industry, not just an isolated and narrow discourse on one aspect," noted Mr. Mihlar.

Recommendations

The following is a summation of the recommendations contained in the report:

Allow the proposed bank mergers to proceed. Given the enormous cost savings and efficiencies to be gained by branch rationalization the federal government should allow the proposed bank mergers
Allow bank rationalization to proceed unimpeded. The government, in its review of the merger proposals should not attach branch or employment restrictions on the post-merged firms. To inhibit the cost savings and subsequent efficiency gains made possible by rationalization calls into question the entire reasoning for consolidation.
Broaden the discussion of financial services. Although the banking sector constitutes a large portion of the financial services industry, there are a host of competitors such as trust companies, loan companies, insurance companies (both life and property, and casual), pension managers, mutual fund companies, securities brokers and financial planners whose presence must be included in any analysis.
Factor in de-mutualization of the life insurance industry. Four of Canada’s largest life insurers have stated their formal intention to de-mutualize. The lack of discussion of the proposed changes in the life insurance sector means that Canada will be faced with another round of harsh decision-making regarding the financial services sector in one to two years.
Remove barriers to entry. The removal of barriers to entry, particularly those imposed on foreign firms will ensure that a lion’s share of the benefits garnered from rationalization flow through to the consumer. The specific regulations that most impede foreign entry are; the domestic capitalization requirement, the subsidiary/branch restriction, the 25 percent ceiling on foreign ownership of Schedule I banks, and the 10 percent limit on ownership concentration of Schedule I banks.
Include secondary components of the sector in the discussions. Among the issues of importance that must be considered are the future role of the Canadian Deposit Insurance Corporation and the Canadian Payments Association.

"In the interest of having a competitive banking system which provides the best services for the Canadian consumer in a cost-effective manner, the Minister of Finance should give the green light to the proposed merger, concluded Mr. Mihlar.

Established in 1974, The Fraser Institute is an independent public policy organization based in Vancouver.

For further information:

Suzanne Walters, Director of Communications,

The Fraser Institute, (604) 714-4582,
Email suzannew@fraserinstitute.ca

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