REGULATIONS DIDN'T SAVE CANADA'S BANKS
May 8, 2009
Canada's five largest banks would pass the U.S. government stress test brilliantly. They were profitable in the last quarter of 2008, are well capitalized now, and have had no problems raising additional private capital. On average only 7 percent of their mortgage portfolios consisted of subprime loans (versus 20 percent in the United States). And no major Canadian bank has required direct government infusions of capital.
Advocates of increased regulation of U.S. financial markets have concluded that more stringent rules governing leverage and capital ratios account for Canada's impressive performance. They champion such measures here. Nevertheless, Canadian banks operate in a very different context. Copying the Canadian banking system in this country, without understanding how its banking and housing sectors operate, would be a mistake, says Marie-Josee Kravis, a fellow with the Hudson Institute.
- Start with the housing sector; Canadian banks are not compelled by laws such as our Community Reinvestment Act to lend to less creditworthy borrowers.
- Nor does Canada have agencies like Fannie Mae and Freddie Mac promoting "affordable housing" through guarantees or purchases of high-risk and securitized loans.
- In the United States, Federal Housing Administration programs allowed mortgages with only a 3 percent down payment, while the Federal Home Loan Bank provided multiple subsidies to finance borrowing.
- In Canada, if a down payment is less than 20 percent of the value of a home, the mortgage holder must purchase mortgage insurance and mortgage interest is not tax deductible.
- Despite these differences, Canada's homeownership rate equals that in the United States; both fluctuate, in the mid to high 60 percent range.
Nothing in Canada's regulations banned risk-taking. Good, prudent management prevented excess. Those who blame financial deregulation for the breakdown of U.S. markets should note that Canada shed its version of Glass-Steagall more than 20 years ago. Major banks thereafter rapidly bought and absorbed investment banks.
Those desirous of importing Canadian banking regulations to the United States should first delve more deeply into the actual practices of our northern neighbor's housing and financial system. Choosing selectively often leads to choosing poorly, says Kravis.
Source: Marie- Josee Kravis, Hudson Institute Fellow, "Regulation Didn't Save Canada's Banks," Wall Street Journal, May 7, 2009.
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