Unlike many other countries, Canada is coming out of the global financial meltdown in pretty good shape. One reason why: the rules of their financial game. Business Week explains:
Canadian banks did not fail because they mostly avoided the big mistakes with mortgages. They didn’t lend to people who couldn’t prove a sufficient income. They did give no-money-down mortgages, but not many—and the practice was effectively banned…. They didn’t they do these things largely because they didn’t have to. Domestic banks own 80% of the mortgage business, and most of that is in the hands of the Big Six. Refinancing is expensive and a hassle. Canadian tax law also plays a role. Mortgage interest isn’t tax-deductible, creating a disincentive to borrow…. All of these elements make home loans a low-risk business, so Canadian banks tend to keep their mortgages rather than bundle and sell them. That forces careful lending, which leads to profits, which leads to healthy banks, which leads to more lending—a virtuous circle.
So when housing prices started rising too fast,
the leaders of the major banks recently urged the government to tighten mortgage rules to chill down the market, even though that would cut into profits in the short term. And the government quickly responded, announcing changes on Feb. 16 that enforce stricter requirements for borrowers, among other (tougher) rules.
In contrast, when our housing market got into trouble, Wall Street stomped on attempts to solve the problem. Take what happened when Georgia governor Roy Barnes, who came from a family of bankers, passed an anti-predatory mortgage law in 2002 — six years before the meltdown.
Barnes found himself besieged by lobbyists from major banks and national regulators—as well as Fannie Mae and Freddie Mac, the government-sponsored mortgage issuers whose mandate is to help people obtain affordable homes at fair prices…. The major mortgage issuers hinted they would turn Georgia into a financial pariah if the state made them liable. They let Barnes know in no uncertain terms he was something of a “country bumpkin” when it came to banking, says his legislative aide, Chris Carpenter. As Barnes recalls, “They would say—and Fannie Mae and Freddie Mac were part of it—’This is a complex global market. If you start interfering with the free flow of money, then Georgia will become an island that has no credit’
S&P was even more aggressive. Instead of using its formidable financial power to reign in the insanity before it blew up the entire system, it used its power to blackmail states who tried to stop the insanity.
Standard & Poor chimed in, announcing that it wouldn’t offer ratings for any mortgage securities with Georgia subprime loans in them, citing liability concerns…. Within months of Standard & Poor’s announcement, the Georgia Legislature repealed Fort’s law and replaced it with one that removed the requirement that lenders show a tangible net benefit for refinance loans. The same process unfolded in New Jersey, where the Legislature passed a tough law in 2003. Lobbyists, led by Ameriquest, descended on the state. Standard & Poor repeated its refusal to rate securities with subprimes from New Jersey. And in 2004 the Legislature unanimously replaced the tough law with that deleted the tangible-net-benefit rule.
Canadian bankers didn’t act more responsibly because their CEOs are saints. As one Canadian banking exec explains, Canadian bankers make out quite nicely under their current rules:
“Just stop doing the stupid things, and these are money machines like God has never created before,” Ed Clark, CEO of Toronto-Dominion Bank (TD), said last year.
And Canadian bankers aren’t more responsible because they are more decentralized. Six Canadian banks basically run the show.
The difference between US and Canadian Finance is that in Canada, there’s a very different balance of players, and that’s led to different rules of the economy. These rules shape the interests and actions of the major banks in favor of sane banking. In turn, these players shape the economy’s rules to sustain this more sane system when problems like housing bubbles threaten to disrupt it.
