Skyline of the financial district

Increasing the capital buffer requirement on Canada’s big banks marks a significant step in unwinding regulatory relief for the banking sector, according to Fitch Ratings.

The rating agency said in a report on Monday that the Office of the Superintendent of Financial Institutions’ (OFSI) move to boost the domestic stability buffer to 2.5% from 1.0%, effective in October, is a “notable milestone” in the unwinding of emergency measures that were adopted amid the onset of the Covid-19 pandemic.

Other relief measures remain in place, including relaxed leverage requirements and restrictions on dividends, buybacks and executive compensation. However, these measures could be relaxed shortly, Fitch said, “particularly with higher certainty on capital requirements in place.”

Given that the banks’ existing capital levels already exceed the new requirements, the bigger buffer shouldn’t curb their ability to support the economic recovery, Fitch noted.

In a separate report, Fitch also affirmed its AA+ rating on Canada, with a stable outlook.

That report said that household debt levels remain “a vulnerability for the economy” and that housing prices are elevated too.

“Aggregate household net worth has risen but high prices have led to stretched affordability for some borrowers,” it noted, adding that rising rates, which are expected to start in the second half of 2022, will increase debt carrying costs.

Given these conditions, Fitch warned that future negative rating action could result from “increasing risk of housing market stress or financial sector developments that lead to a rise in fiscal or macro vulnerabilities.”

The rating agency said it believes the bigger capital buffer required by OSFI is “appropriate in light of expressed vulnerabilities related to rising household and corporate debt levels, which could nonetheless pressure our view of the operating environment.”