Are Canadian banks too big?


in Canada, Economics, Politics

Mixed media on a Toronto wall

So far, Canada’s banks seem to have fared will in the financial crisis. Unlike in the United States, they are few and relatively forcefully regulated. The current Wikipedia article on Canada’s banks is generous with praise: “Banking in Canada is widely considered the most efficient and safest banking system in the world, ranking as the world’s soundest banking system according to a 2008 World Economic Forum report.” It’s possible that this is a fundamentally superior form of financial regulation. At the same time, it’s possible that this crisis just wasn’t the sort that would test the viability of the big Canadian banks, and that another crisis could.

Given the extreme difficulty of dealing with banks too big to fail, should Canada break up the big banks that exist presently? Would doing so increase the security of the financial system, or diminish it? Also, if Canadian banks should be broken up, when should it be done?

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{ 57 comments… read them below or add one }

. April 5, 2009 at 6:35 pm

Canada envy, amid a global meltdown

From Saturday’s Globe and Mail
March 6, 2009 at 9:26 PM EDT
Canada’s banks are finally getting some respect.

Derided for years as meek and mild while banks around the world expanded wildly, suddenly the reputation of Canada’s big lenders as prudent and sometimes downright boring has become an asset instead of a liability.

U.S. President Barack Obama has heaped praise on the management of this country’s financial system. Ireland is considering overhauling its system to look more like Canada’s. Financial papers around the world are running headlines such as “Canada banks prove envy of the world.”

Tristan April 5, 2009 at 10:49 pm

Any fractional reserve bank can fail. All it requires is the idea that it could fail. Any bank, no matter how sound, if people think it will fail, can actually fail because any bank does not hold anywhere near it’s creditors (depositors) debts on hand in ready cash.

If an economy requires credit, and the federal money bank can extend credit, and the federal bank can determine the correct prime rate of interest for the economy, it’s unclear why banks are not replaced by a government bureaucracy. Since that would make the bank the same as the printer, the possibility of a bank run would be eliminated.

Tristan April 6, 2009 at 1:15 am

Wait a minute – do you mean that you think this crisis will be followed by a larger one? We’ll make a Marxist out of you yet!

Milan April 6, 2009 at 8:47 am

Another crisis need not be bigger. It might just affect Canada, or even a single bank in Canada.

Also, believing future financial crises are possible hardly makes you a Marxist. The pro-market counterargument is that capitalism produces better overall outcomes, even when crises are taken into account.

Milan April 6, 2009 at 8:49 am

Also, it is possible that Canada’s regulated oligopoly banking system is the best possible option for a state with our financial position, embedded in a global financial system akin to that which exists now.

Tristan April 6, 2009 at 9:56 am

“believing future financial crises are possible hardly makes you a Marxist.”

True, it is rather the belief that the crises will continue to occur, more often, and be larger and larger, that is a normal Marxist belief.

The world economic system has been rocked by a few crises this century, it seems what we are seeing now is the end of Bretton Woods 2. If it is replaced by a world reserve fiat currency, I can’t really imagine the crisis not being repeated by a larger one in 20-50 years.

There is of course the possibility that regulation will prevent the leveraging up of the market again – but due to the moral hazard involved, this seems highly unlikely. If we really wanted to preserve capitalism in the long run, we should remove the moral hazard from banking – the most straightforward way of doing this would be turning it into a piece of government. It’s the only way to assure that systemic risk always be included in decision making – not as a restriction/regulation, but by making its effects part of the goal in mind.

Milan April 6, 2009 at 10:12 am

It would be more productive to limit this conversation to the question of whether Canada’s financial system would be more resilient if the same regulations were in place, but there were more and smaller banks.

A related question is whether it would be possible for the government to regulate a larger number of banks in the same way.

R.K. April 6, 2009 at 10:18 am

What are the rules on credit default swaps like in Canada? My understanding is that treating them more like conventional insurance would help avoid problems like the ones with collateralized debt obligations.

Tristan April 6, 2009 at 10:27 am

Wouldn’t the banking sector be the most stable if it had only one bank? If that were the case, anyone taking their money out of the bank could not put it in another “safer” bank, so banks could only fail if people would prefer to hold cash than have their money deposited anywhere. And, so long as the bank and depositors insurance, holding cash would be stupid because you wouldn’t earn any interest on it – required to counteract inflation.

Milan April 6, 2009 at 2:17 pm

Competition between banks is pretty important. For one thing, it probably drives technological development and deployment, such ATMs. For another, banks competing for customers have an incentive to offer lower fees or other perks.

Having pseudo-banks like ING is also important (pseudo because they lack branches and ATMs). If ING didn’t exist, the interest rates available for investment savings accounts at other banks would probably be lower, with more fees and barriers to withdrawal.

Milan April 6, 2009 at 2:19 pm

This page suggests that credit default swaps (CDSs) are quite commonly used in Canada, though it doesn’t say anything about how they are regulated.

. April 6, 2009 at 2:21 pm

Canada: Regulation Of Credit Default Swaps
Article by Edward P. Kerwin, Henry J P Wiercinski, Candace Pallone and Michael C. Nicholas

Here we go again! Calamitous events are often catalysts for regulatory change. The market crash of 1929 spawned a spate of such changes, including the separation of investment banks and commercial banks under the Glass-Steagall Act of 1933 (relaxed in 1999 under the Gramm-Leach-Bliley Act) and the enactment of a trio of acts: the Securities Act of 1933, the Securities Exchange Act of 1934, and the Investment Companies Act of 1940. The Enron and WorldCom accounting scandals produced the Sarbanes-Oxley Act in 2002. The recent rescue of American International Group has sparked regulatory action in the State of New York in the hitherto unregulated “covered” credit default swap (CDS) market and could result in new regulation of the “naked” CDS market.

R.K. April 6, 2009 at 3:53 pm

What seems most necessary is protocols for evaluating the level of systemic risk produced by new financial instruments like CDOs and CDSs.

Maybe they should have to face simulated clinical trials, like pharmaceuticals.

Tristan April 6, 2009 at 7:03 pm

“banks competing for customers have an incentive to offer lower fees or other perks.”

It’s exactly as easy to say that banks competing for customers have an incentive not to compete with each other by offering lower fees or perks. Sure, they have an incentive to compete – but competing is expensive, so they have an even larger incentive to conspire. One example of oligopoly we’ve seen a lot of is simply merging two banks into one – this way at least those two banks don’t have to compete with each other.

As for technological development, do we really think the state is so incompetent that they could not have installed an ATM network – which would be more efficient if there only needed to be one such network rather than many. Do we really think the state could not have commissioned online banking software? It’s not as if consumers don’t pay for this development when it’s in private hands (that’s a pretty obvious fallacy which I’m not going to go into) – and if everyone needs bank service, why not have taxes pay for it?

Basically the only reason I can think of that banks should be private is that “governments are so incompetent”. But this is actually just an idea that we have, that serves an important purpose (keep democracy from becoming more functional). All my experience talking to people in the public service indicates to me that there a lot of competence there, and that they aren’t an endless stream of mindless status quo nimbuses as programs like “yes minister” display them.

Milan April 6, 2009 at 7:37 pm

What about politicized lending? Is there a danger that a government-run bank would favour the firms and industries that support the government in power? Would political considerations interfere with the efficient and equitable allocation of capital?

Tristan April 6, 2009 at 8:20 pm

Do political considerations interfere with the Bank of Canada? If the Bank of Canada can be independent and lend to banks, why could an extended BOC be independent and lend to people? Doesn’t the fact that Banks borrow from the BOC mean these moral hazards are already in place?

Milan April 6, 2009 at 8:23 pm

I think the huge banks are fairly apolitical. Much more so than ordinary firms, at least.

The whole Liberal sponsorship scandal suggests that Canadian political parties are not above complex kickback schemes.

Tristan April 6, 2009 at 9:58 pm

Fair point about the sponsorship scandal. But I’m not sure about banks being a-political. First, that’s a category mistake – the idea that we should have banks at all is a political position. But, you are working on a plane of the political where decisions like that don’t show up as political decisions.

It’s hard for me to see how you could say banks are a-political though, even in a contemporary, normal sense which doesn’t question liberalism – when it was certainly banking lobbyists who pushed for de-regulation in the US in the 1980s and 90s, the effects of which we are feeling now.

It seems, in general, banks tend to have an interest (at least in the short term) in the ability to leverage more, which increases systemic risk. In an era when CEO’s average term is 2 years, I think perhaps less, it’s easy to see why certain banks might push for de-regulation which allows profitable practices with high levels of externalized systemic risk.

Milan April 6, 2009 at 10:01 pm

The question is, would one or more government run banks facilitate political corruption? The likely answer seems to be ‘yes.’

Tristan April 6, 2009 at 10:46 pm

Well, why do we not have political corruption in the Government run bank we already have?

If Banks can make more money when the overnight lending rate is reduced, then why isn’t there an incentive for the Banks to bribe the BOC to reduce it?

Milan April 7, 2009 at 2:23 pm

There are always incentives for corruption. All I am saying is that an increased risk of corruption is one of the risks associated with having one or more government-run banks.

Tristan April 7, 2009 at 4:27 pm

Who benefits from quantitative easing?

Looks like we might already have some corruption on our hands.

Milan April 7, 2009 at 4:35 pm

This is really perpendicular to the question of whether Canada’s banks would be more secure if they were split apart into smaller pieces.

To me, the probable trade-off seems to be it being easier to regulate a smaller number of firms carefully, but it is more systemically dangerous if one of them fails for some reason (such as a new financial instrument with unexpected effects).

Tristan April 7, 2009 at 5:32 pm

It seems to me pretty simple to deal with the big banks if they fail.

First, be very clear with investors about which deposits are federally insured and which aren’t.

Then, when a bank fails, simply liquidate its assets and pay back all the federally insured deposits. If the assets fail to pay for all the deposits, so bet it. Also, if the state feels like its a bad time to sell the assets they can be held in trust and sold later, or they could become federal property.

There is no problem with the failing of banks so long as investors clearly understand risk.

Milan April 7, 2009 at 5:48 pm

The problem with failing banks isn’t the people with accounts there. It is other financial institutions with which the banks have financial dealings: for instance, the CDSs issued as insurance on CDOs. One bank failing to uphold its side of such contracts can make other institutions fail, hence the notion of systemic risk.

Milan April 7, 2009 at 5:52 pm

There are other such linkages.

Imagine a firm that is perfectly financially sound and profitable, but which has a cyclical business. To get through the slow time, it has a line of credit from a big bank. If that bank fails, the business may well fail (especially if credit is tight elsewhere). If the business fails, suppliers to that business may fail, etc, etc.

Tristan April 7, 2009 at 6:01 pm

The solution is pretty clear – get rid of systemic risk. In other words, develop a system where systemic risk is included in the transaction, rather than externalized to the system at large (which means the state if it results in bailouts).

. April 7, 2009 at 6:03 pm

Taming the beast

Apr 17th 2008
From The Economist print edition
It is time to simplify derivatives trading—but not to stunt it

After previous derivatives blow-ups in the 1990s, banks fought hard to stop the business being herded onto lower-margin exchanges. This time the authorities may not be so sanguine. The swaps are mostly bespoke, traded between two parties (who often offset the risk by trading with third parties, and so on) and would have been subject to huge counterparty risk if, say, a big dealer like Bear Stearns had collapsed. They may sound sophisticated, but their settlement can be anything but (many contracts are still buzzed by fax from a buyer to a seller for signing). Three years ago, financial supervisors in America and Europe obliged big banks to start clearing a huge backlog in unconfirmed swaps contracts, fearing a legal quagmire if a lot of them needed to be exercised at once.

. April 7, 2009 at 6:07 pm

Credit risk
From Wikipedia, the free encyclopedia

. April 8, 2009 at 12:50 pm

The Crisis of Credit Visualized
by Jonathan Jarvis

. April 8, 2009 at 7:01 pm

Ten principles for a Black Swan-proof world

By Nassim Nicholas Taleb

Published: April 7 2009 20:02

1. What is fragile should break early while it is still small.

2. No socialisation of losses and privatisation of gains.

3. People who were driving a school bus blindfolded (and crashed it) should never be given a new bus.

4. Do not let someone making an “incentive” bonus manage a nuclear plant – or your financial risks.

5. Counter-balance complexity with simplicity.

6. Do not give children sticks of dynamite, even if they come with a warning.

7. Only Ponzi schemes should depend on confidence. Governments should never need to “restore confidence”.

8. Do not give an addict more drugs if he has withdrawal pains.

9. Citizens should not depend on financial assets or fallible “expert” advice for their retirement.

10. Make an omelette with the broken eggs.

Tristan April 8, 2009 at 10:15 pm

“To get through the slow time, it has a line of credit from a big bank. If that bank fails, the business may well fail (especially if credit is tight elsewhere). If the business fails, suppliers to that business may fail, etc, etc.”

It’s absurd that we even consider this a problem. The risk of the bank failing just needs to be priced. We have a way of doing this – it’s called the fractional reserve ratio. A higher reserve ratio makes the bank less profitable, but more secure against failing. If we’re worried about the systemic risk – externalize that risk into a cost onto the banks by raising the reserve ratios. It’s that fucking simple – don’t let banks profit from risk that they DON’T PAY FOR. That’s STEALING. This whole bloody economy is predicated on profit through externalization!

Milan April 9, 2009 at 2:21 pm

Increased security comes with costs.

The higher a proportion of bank deposits you require them to hold as reserves, the less lending they can do. That means less opportunity to finance various sorts of investment. The societal value provided by the bank, as well as returns to investors and depositors, falls.

As such, a balance must be struck between reducing the probability of a very bad outcome (like bank failure), reducing the harmfulness of that outcome (as with deposit insurance), and not undermining the reason why the bank exists in the first place: namely, to facilitate the cooperation of savers and investors who don’t know each other directly.

Tristan April 10, 2009 at 6:59 pm

What’s un-realistic about Chomsky’s response to the economic bailout? (This applies as much to the way Canadian institutions are run as it does to American ones.)

. April 19, 2009 at 11:06 pm

The Daily Show with Jon Stewart : April 15, 2009 : (04/15/09) Clip 3 of 4

Elizabeth Warren explains to Jon how much taxpayer money has been sent to Wall Street and what they’ve done with it.

. May 8, 2009 at 11:20 am

Some reasons why Canadian banking is special

1. We never had restrictions on interstate banking, so Canadian banks spread their assets and liabilities across Canada. (So it doesn’t matter if a local housing market goes bust).

2. We don’t have Glass-Steagal. The investment banks joined the retail banks some years ago.

3. We don’t have mortgage interest deductibility from taxes. So paying down your mortgage is a tax-free investment. So most people want to pay down their mortgages.

4. (Except in Alberta), mortgages are fully recourse. You can’t just walk away from a negative equity home and hand the keys to the bank; the bank will come after you for the difference.

I wouldn’t describe those differences as “Canada is more regulated”.

But we do have higher capital requirements. And mortgages over 80% must be insured (mostly by the government-owned CMHC).

. May 8, 2009 at 11:21 am

Canadian Exceptionism

08 May 2009 09:35 am

Canada is one of the few countries without a major banking crisis. Weirdly, this was also true in 1930. I’ve seen this list of the success factors for Canadian banks in several places. I want to believe it, but . . . doesn’t seem to be as simple as “Canadian banks are more tightly-regulated”.

. May 27, 2009 at 12:02 pm

The banking industry
Three trillion dollars later…

May 14th 2009
From The Economist print edition
There is no single big remedy for the banks’ flaws. But better rules—and more capital—could help

In an ideal world any government would vow that, next time, it will let the devil take the hindmost. But promises to leave finance to fail tomorrow are undermined by today’s vast rescue. Because the market has seen the state step in when the worst happens, it will again let financiers take on too much risk. Because taxpayers will be subsidising banks’ funding costs, they will also be subsidising the dividends of their shareholders and the bonuses of their staff.

It should be obvious by now that in banking and finance the twin evils of excessive risk and excessive reward can poison capitalism and ravage the economy. Yet the price of saving finance has been to create a system that is more vulnerable and more dangerous than ever before.

Some argue that only draconian re-regulation can spare taxpayers from the next crisis. The structure must be changed. Governments should purge banks that are big enough to hold the system to ransom. Or they should seek to slice through the entanglements, cordoning off the dangerous bits. New “narrow” banks would be guaranteed a seat in the lifeboat by the state and heavily regulated for the privilege. The rest of the industry would be free to swim—and to sink.

Yet this search for a big, structural answer runs into two problems. One is that the reform is not as neat as it first appears. Nobody wants to have banks that are so big that they stifle competition (itself a source of stability), but breaking big banks up into tiny bits that pose no systemic risk would be a horribly complex and lengthy task. As for narrow banks, precisely which bit is too important to fail? People’s idea of a systemic risk can change quickly. Today’s rescues have included investment banks and insurers, neither of which used to be regarded as system-threatening.

The second drawback is inefficiency. Limiting banks’ size could stop them from attaining the scale and scope to finance global business. Confronted with restrictions, financiers innovate—in recent years, for instance, risk was shifted to non-banks such as money-market funds, which then needed rescuing. Regulators can stop innovation, some of which has indeed been abused, but Luddites in finance would do as much harm to the economy as Luddites in anything else.

. June 3, 2009 at 1:54 pm

A special report on international banking
Don’t blame Canada

May 14th 2009
From The Economist print edition
A country that got things right

“IT IS the only time I feel like royalty,” says the boss of a big Canadian bank, describing the reception he now gets in America. He is not the only one basking in acclaim. All of Canada’s main banks were profitable in the quarter ending January 31st, when market conditions were at their worst. None has needed government investment. The country’s financial system has been praised by Barack Obama.

Trouble is, some differences between the two countries are culturally ingrained. “The United States has an inherently higher risk appetite,” says a banker familiar with both sides of the fence. It is hard to find pre-crisis equivalents in America of the decision by Toronto-Dominion (TD) to exit its structured products business in 2005, or the 20-30% band that RBC imposes on the share of earnings that its capital-markets business can contribute.

. June 5, 2009 at 11:49 am

Greenspan Shrugged
The former Fed chairman preaches fatalism about the “too big to fail” problem.
By Timothy Noah
Posted Thursday, June 4, 2009, at 6:40 PM ET

It wasn’t very long ago that the world would hang on every word uttered by Alan Greenspan, chairman of the Federal Reserve from 1987 to 2006. But when the economist whom Bob Woodward dubbed “Maestro” gave a major speech on June 3 at the American Enterprise Institute, it attracted comparatively little attention. One likely reason is that the financial press was preoccupied by the current Fed chairman’s newsworthy warning that same day that a growing deficit might impede economic recovery. A second likely reason is that the current very deep recession has brought about a steep decline in Greenspan’s reputation as economic wise man. But I like to think that a third reason also played a role: Greenspan gave a lousy speech..

. August 3, 2009 at 2:21 pm

Another priority is to get a better understanding of systemic risk, which Messrs Scholes and Thaler agree has been seriously underestimated. A lot of risk-managers in financial firms believed their risk was perfectly controlled, says Mr Scholes, “but they needed to know what everyone else was doing, to see the aggregate picture.” It turned out that everyone was doing very similar things. So when their VAR models started telling them to sell, they all did—driving prices down further and triggering further model-driven selling.

Several countries now expect to introduce a systemic-risk regulator. Financial economists may have useful advice to offer. Many of them see information as crucial. Data should be collected from individual firms and aggregated. The overall data should then be published. That would be better, they think, than a system based solely on the micromanagement of individual institutions deemed systemically significant. Mr Scholes favours relying less on VAR to calculate capital reserves against losses. Instead, each category of asset should have its own risk-capital reserves, which could not be shared with other assets, even if prices had not been correlated in the past. As experience shows, correlations can change suddenly.

. October 1, 2009 at 2:38 pm

“SIR – Your leader on the lessons learned one year after the collapse of Lehman Brothers identified the “core problem” of the current financial mess as the lingering assumption that banks will be bailed out (“Unnatural selection”, September 12th). Who could disagree? America and other bail-out nations have in effect socialised their banking systems. However, the two remedies you put forward—more regulation and capital—ignore a simpler, bolder option: split up the banking behemoths.

Let us have separate retail banks (dull, safe utilities where people can save and pay bills) and hive off the investment bankers. Let them gamble and speculate if they will. But if the masters of the universe disappear into a black hole of their making, don’t ask the poor and prudent to ride to the rescue. Let the reckless, greedy and incompetent go bust. Only that way will good be winnowed from bad. Come back Glass-Steagall, all is forgiven.

Richard Woods
Chawton, Hampshire”

Milan October 1, 2009 at 3:29 pm

Matthew Mullenweg’s SafeBank idea (also discussed here) is based around similar reasoning to the letter above.

. October 26, 2009 at 3:33 pm

Mark Carney to banks: Avoid hubris

Kevin Carmichael

Ottawa — Globe and Mail Update Published on Monday, Oct. 26, 2009 9:17AM EDT Last updated on Monday, Oct. 26, 2009 1:54PM EDT

Bank of Canada Governor Mark Carney pushed back Monday against the financial industry’s increasing resistance to regulatory change, suggesting a sudden rush of profits is causing bankers to forget the lessons of the crisis.

In a speech hosted by Quebec’s securities regulator in Montreal, Mr. Carney said banks around the world would be unwise to bet against policy makers’ resolve to overhaul the regulatory system after deploying hundreds of billions of dollars to save the financial system from banks’ excessive risk taking.

Mr. Carney, who has an indirect but influential role in rule making, said the central bank would prefer to work with banks in drawing up a new regulatory regime. However, he suggested financiers are becoming uncooperative, preferring a return to life before the financial crisis.

. October 28, 2009 at 3:41 pm

Splitting up banks
Too big to bail out

Oct 22nd 2009
From The Economist print edition
Mervyn King declares for narrow banking

FOR more than a year, deep thinkers have been pondering how to prevent the most catastrophic financial crisis in decades from happening again. Should banks be cut down to more manageable size, or given a stern talking-to and loaded with capital requirements to deter recklessness? So far, regulators and politicians seem to be plumping for the second option. But as bank profits and bonuses mount, discontent at what looks like business as usual is growing. This week one of Britain’s biggest financial beasts broke cover to argue for the more radical solution.

Mervyn King, governor of the Bank of England, told businessmen in Edinburgh on October 20th that regulation is not enough to keep banks from becoming “too important to fail”. Moral hazard is endemic: bankers take big risks, pocketing the profits but counting on governments to pick up the pieces if things go wrong.

Instead, he said, banks should be split up. Taxpayers’ money should underpin only those that operate as economically-necessary “utilities”—broadly, running the payments system and converting deposits into productive investment. Racier operations, including proprietary trading and other sorts of “casino” banking, should be spun off to outfits prepared to live and die by their wits, with no state guarantee.

. November 3, 2009 at 11:51 am

British plan breakup of bailed-out banks
Some want U.S. to follow suit to increase financial competition

By Anthony Faiola
Washington Post Foreign Service
Tuesday, November 3, 2009

LONDON — The British government is moving to break up parts of major financial institutions bailed out by taxpayers, with a restructuring plan expected to be unveiled as soon as Tuesday. The move highlights a growing divide across the Atlantic over how to deal with the massive banks partially nationalized during the height of the financial crisis.

The British government — spurred on by European regulators — is set to force the Royal Bank of Scotland, Lloyds Banking Group and Northern Rock to sell off parts of their operations. The Europeans are calling for more and smaller banks to increase competition and eliminate the threat posed by banks so large that they must be rescued by taxpayers, no matter how they conducted their business, in order to avoid damaging the global financial system.

The move to downsize some of Britain’s largest banks comes as U.S. politicians are debating whether American banks should also be required to shrink. The Obama administration has maintained that large banks should be preserved because they play an important role in the economy and that taxpayers instead should be protected by creating a new system for liquidating large banks that run into problems. But Britain’s decision already is being cited by a growing chorus of experts, including prominent bankers and economists, who want the United States to pursue a similar approach.

. January 18, 2010 at 7:22 pm

A study of recent—and not so recent—financial reform and regulation yields two rules. Rule No. 1: The banks have no idea what kind of regulation is good for them. Rule No. 2: If you ever think the banks have a point, remember Rule No. 1.

This rule dates almost to the beginning of American history. Many commercial banks in the United States opposed the creation of the first and second national banks of the United States in the late 18th and early 19th century. They saw the proto-central bank as competition, since it was essentially a congressionally chartered private bank that would compete with them. As a result, the United States, in contrast to economic rivals England and France, lacked a central bank in the 19th century—despite periodic banking panics and failures, the severity of which could have been mitigated by a central bank. It was only after the Panic of 1907 that forces were set into motion for the creation of a central bank. Would it surprise you to learn that many bankers and their political allies opposed the creation of the Federal Reserve? Didn’t think so.

The same dynamic returned in the 1930s, after Wall Street and the commercial banking sector had essentially destroyed itself. The banking industry had proved utterly incapable of ensuring the safety of its customers’ deposits. Yet when the Roosevelt administration proposed the establishment of an industry-funded Federal Deposit Insurance Corp., Francis Sisson, then president of the American Banking Association, called deposit insurance “unsound, unscientific, unjust, and dangerous.” After all, “overwhelming opinions of experienced bankers are emphatically opposed to deposit guaranties which compel strong and well managed banks to pay the losses of the weak.”

. January 22, 2010 at 9:52 am

“I hope employees of Goldman Sachs and Morgan Stanley are enjoying the huge taxpayer-subsidized bonuses they’re receiving this year. It could be their last such bonanzas, if the Obama administration is serious about implementing proposals unveiled Thursday morning.

The new plan has two major goals. It wants to put in place safeguards that would ensure that banks don’t get too big—that they don’t take on too large a share of the nation’s deposits or other types of liabilities. If they’re not too big, we won’t feel compelled to come to their rescue if they fail. More controversially, Obama is proposing a measure that would “ensure that no bank or financial institution that contains a bank will own, invest in or sponsor a hedge fund or a private equity fund, or proprietary trading operations unrelated to serving customers for its own profit.” In English: No federally backed bank will be allowed to use other people’s money to take big risks, reap most of the rewards, and suffer minimal consequences if the investments fail.”

. May 12, 2010 at 1:25 pm

The least-bad rich-world economy
The charms of Canada
Good policies, good behaviour and good fortune: if only others could be as lucky

May 6th 2010 | From The Economist print edition

AS THEY contemplate high unemployment, foreclosed homes, shrivelled house prices and the arrogant follies of their investment bankers, Americans may cast envious glances across their northern border. Despite its umbilical links with America, Canada’s economy suffered only a mild recession and is now well into a solid recovery. The Canadian dollar, having dipped sharply, is back up to rough parity with the greenback. The Bank of Canada has signalled that it may soon raise interest rates. When Stephen Harper, the prime minister, hosts the get-togethers of the G8 and G20 countries next month he will be able to boast to his visitors that his country’s economy is set to perform better than that of any other rich country this year.

How has Canada avoided the plagues that are afflicting everyone else? The short answer is a mixture of good policies and good luck. The main reason for the country’s economic resilience is that neither its financial system nor its housing market magnified the recession. The banks remained in profit. House prices held up fairly well and are now rising. And for that regulators deserve a chunk of the credit.

Canada’s banks face high capital requirements and a cap on their leverage, such that their assets cannot exceed 20 times their capital (a lot less than the corresponding figure for many Wall Street firms and European banks). Canadians who take out mortgages worth more than 80% of the value of the property must also take out insurance against default from a federal agency, the Canada Mortgage and Housing Corporation. The banks must insure the rest of their mortgage book with the corporation. It helped, too, that Canada has a single banking regulator. The big five banks snapped up the leading stockbroking firms in the 1990s, becoming universal banks. But, whether through luck or judgment, they never became too dependent on investment banking. And, mirabile dictu, their shareholders managed to ensure that bankers’ bonuses were kept within modest bounds.

. May 12, 2010 at 1:33 pm

Canada’s resilient economy
The Goldilocks recovery
Strict financial regulation and a new commodity boom have turned “boring” Canada into an economic star

May 6th 2010 | OTTAWA | From The Economist print edition

THEIR economy is so intertwined with their neighbour’s that when the United States plunged into recession, Canadians assumed they would be dragged along for the ride. Newspapers took to illustrating their economic stories with pictures of Depression-era bread lines. Yet whereas the United States has still not officially declared its recession over, Canada is nine months into recovery from its mildest and shortest downturn in recent history. Unemployment has been falling since last August, and proportionately fewer jobs were lost than south of the border.

Jim Flaherty, the finance minister, attributes Canada’s strong performance to its “boring” financial system. Prodded by tight regulation, the banks were much more conservative in their lending than their American counterparts. Those that did dabble in subprime loans were able to withdraw quickly. This prudence kept a lid on house prices while those in America were soaring, but it paid off when the bust hit. The volume and value of home sales in Canada are now at record highs. In some areas the market looks downright frothy: a modest house in Ottawa listed at C$439,000 ($435,000) recently sold for $600,000. “A lot of homes are selling in one day, and often for over the asking price,” says David Cullwick, a local estate agent. Rising prices have bolstered the construction industry and sellers of furniture and building materials.

True to form, the authorities are moving to halt the party. During the recession the Bank of Canada cut its benchmark interest rate (to 0.25%), injected extra liquidity and bought up mortgage-backed securities. At its April policy meeting the bank withdrew its pledge not to raise rates. Analysts expect an increase in June. The government has ended tax credits for first-time house buyers and for renovations, which were granted in 2008 to stimulate demand.

. February 5, 2011 at 8:46 pm

The chairman of a commission reviewing the structure of British banking gave a speech outlining his thinking. Sir John Vickers said that banks should guard against future catastrophe by raising more capital and compelling creditors to take bigger losses, and that retail-banking operations should be legally “ringfenced” from investment banking. But Sir John dropped a strong hint that Britain’s banking behemoths should not be broken up. See article

. May 2, 2011 at 6:00 pm

An independent commission looking at reforms to Britain’s banking industry produced its interim report. The Vickers commission recommended that systemically important banks should set aside 10% of capital as a buffer against hard times and ring-fence their retail operations. It also proposed that Lloyds Banking Group, Britain’s biggest retail bank, should dispose of more branches. The outlines were generally welcomed, though critics grumbled that the commission had retreated from advocating a more drastic shake-up of the industry. See article

. May 2, 2011 at 6:01 pm

Britain’s banking commission
No more walks on the wild side
Britain decides not to reinvent banking. Good

BECAUSE banks loom so large in the national economy, Britain decided it needed to go its own way and design a bespoke system for regulating them. This week the commission asked to do that, chaired by Sir John Vickers (pictured), gave its first recommendations (see article).

Sir John has not offered a radical departure, but a beefed-up version of what the rest of the world is doing. Compared with other banks, British ones would have to ring-fence their vital parts and carry more capital, and they would also face more action to promote competition. His proposals could do with a bit of strengthening, but are broadly to be welcomed.

For some Britons, however, this approach is nothing like tough enough. They want a Year Zero in which officials design a safe financial system from scratch, banks are broken into smaller pieces and their high-street operations severed from their investment arms.

. June 7, 2011 at 5:57 pm

The problems of size
Survival of the fattest
What, if anything, can be done about banks that are too big to fail?

SUPERVISORS THE WORLD over are trying to work out ways of dealing with banks that are too big to fail. The most obvious solution is to chop them up into manageable bits so none is too big or interconnected to be allowed to go. But it is far from perfect. For a start, carving up big banks that operate internationally does not necessarily reduce their risk—on the contrary, their geographical spread may have made them safer. And Spain’s troubled savings banks show that when many small banks stumble they can cause as much trouble as one big one. The risks on their books are often concentrated.

However, reducing big banks to manageable proportions could be a question not just of size but also of the scope of activities. In the run-up to the crisis and right through it most big banks converged on some variant of universal banking, combining both retail and investment business. If anything, the shotgun marriages that took place at the height of the crisis accelerated this trend, joining many of America’s investment banks with their commercial rivals. This was done for good reasons. Universal banks generally have more stable earnings and lower borrowing costs than specialists in one or the other area of business.

Looking at costs can, however, be deceptive. One reason why universal banks are able to borrow more cheaply than standalone investment banks is cross-subsidisation, which raises two worries. The first is that they are able to channel cheap deposits from their retail businesses into their investment banks. Normally regulators are not concerned with the pricing of internal transfers, but for banks the cost of borrowing is inextricably tied to the riskiness of the loan. If one part of a bank is getting money more cheaply from another part of the business than it would from the money markets, the chances are that the risks involved are not being properly priced.

. June 17, 2012 at 5:44 pm

Readers of this blog will have hopefully read my report “The big banks big secret” which examines the $114 billion that Canada’s banks received during the 2008-09 financial crisis. Its major finding was that at some point three of Canada’s five big banks had received support worth more than their market capitalization, or the value of all the stock, at around $20-25 billion per bank.

As I noted in the report both the Bank of Canada and CMHC have refused to release the secret details of their support programs including how much each bank got, when they got it and what they put as collateral. Canadians are still not allowed to know how much each bank got.

. April 6, 2013 at 12:12 pm

Yet having a skilful central-bank chief is not the only, or even the main, reason for Canada’s resilience. A bigger one is the conservatism imposed on Canada’s lenders following the collapse of a few small regional banks in the 1980s. When crisis struck, the country’s banks held capital well above the levels prescribed by Basel 2, a set of international rules. The supervisor imposed an absolute ceiling on the loans—even those classified as low-risk under Basel 2—that each bank could make for a given capital base. Lenders are required to insure mortgages with the government if the downpayment is less than 20% of the home’s value.

The decision in 1998 to stop Canada’s four biggest banks from merging into two proved crucial, too. The banks said they needed muscle to compete globally. As it turned out, by being forced to stay smaller and largely domestic in focus, they were shielded from the foreign adventures that crippled the Royal Bank of Scotland. Yet Canada’s success is a riposte to those in Britain who fear its concentrated banking system is a source of trouble. Canada’s biggest five banks account for a whopping 87% of lending.

. May 23, 2014 at 7:20 pm

In the government’s retelling of the crisis, it alone stood between Canadians and doom. Yet luck played a large, unacknowledged part, says Livio Di Matteo, an academic and contributor to Worthwhile Canadian Initiative, the world’s best-named economics blog. The government was lucky that steps had been taken to strengthen the banking system after a series of failures in the 1980s, he says; lucky that a previous Liberal government had eliminated the deficit; and lucky that resource-producing western provinces could take up the slack when the manufacturing heartland slowed dramatically. “There is a risk that if we think we’ve done really well because of our institutions and some type of Canadian exceptionalism, we might become complacent,” says Mr Di Matteo.

Mr Harper’s Conservative government has recognised some weaknesses. Despite the plaudits for its banks, Canada still has a “too big to fail” problem. Six lenders dominate a system with financial assets worth five times GDP. The federal banking regulator tightened up the banks’ capital requirements and supervision in March 2013. The body that would have to resolve a bank failure has been given more powers.

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