While countries across the globe were hit hard by the global financial crisis and continue to feel its effects, Canada has remained somewhat shielded. Canada was not entirely immune from the economic crisis, but managed to withstand many of its shocks and repercussions. Two recent Wilson Center programs explored banking and finance in Canada to review the unique conditions that helped Canada weather the global economic storm better than several of its allies.

On June 23, the Wilson Center's Canada Institute and the Brookings Institution's Economic Studies Program co-sponsored an event to examine Canada's financial system, particularly its approach to financial market regulation, and explored whether aspects of the Canadian model could be adopted in other countries. Among the day's speakers was Mark Carney, governor of the Bank of Canada, though his remarks were off the record.

Canadian Ambassador to the United States Michael Wilson, Canada's former finance minister and a former investment banker, attributed Canada's overall financial health and stability to its stable macro environment and sound monetary policy. For more than a decade prior to the crisis, successive Canadian governments have worked to maintain balanced budgets and achieve regular surpluses that have reduced the national debt by almost C$100 billion since 1997, even as spending rose.

Canada also has a long record of implementing policies that promote stable prices and predictability, Wilson said. "This in turn helped Canada avoid the type of housing bubble-and-bust dynamic—and other system-wide threats—that we have witnessed in many other countries."

Wilson noted Canada's culture of fiscal conservatism that prevented its financial community from engaging in high-risk ventures, such as sub-prime lending, which led to the current crisis in other countries. He also lauded the Canadian model for its strong financial regulatory framework, which is reviewed every five years to ensure Canada's policies remain relevant in a constantly evolving global market.

A similar meeting was held later that day on Capitol Hill, co-sponsored by Wilson Center on the Hill.

Mortgage Finance

Nick Le Pan, former Canadian superintendent of financial institutions, discussed Canada's conservative mortgage policies. He said Canadians are required to purchase government insurance for high-ratio mortgages (those with a less than 20 percent down payment) and that fixed-rate mortgages are available for a maximum of five years.

Canadian banks face less risk because they own nearly all of the mortgages. Another risk-reducing factor is the structure of the mortgage industry. Since commercial banks own Canada's major investment banks, he said, stock options are not given to board members, and the majority of corporations separate the roles of CEO and chair, thus minimizing incentives for banks to take major risks.

Douglas J. Elliott, a fellow in economic studies at the Brookings Institution, said while these and other conservative practices, such as the lack of tax deductions for mortgage interest, significantly reduced the chances of a housing bubble in Canada, the United States is unlikely to reduce the tax deduction on mortgage interest or require a 20 percent down payment.

"It is simply not part of our culture," Elliott said. Canadian culture is generally more conservative, especially with regard to risk, than what one finds in the United States, said Elliott, and Canadians are more willing to accept government intervention. Canadian banks are less averse to working with the government than American banks, he said, and tend to be more careful about their lending practices. While these policies may protect the economy, Elliott deemed it unlikely to have a culture change in the U.S. system that would allow adoption of similar policies.

Regulating Finance

Elliott further noted that Canada's financial sector is dominated by five major banks, far fewer than in the United States, making it easier for regulators to keep track of them. As long as the United States has "cowboy banks" taking large risks to maximize profits, he said, the U.S. government will have a hard time regulating the whole industry.

Le Pan agreed the U.S. and Canadian economic models are quite different but suggested Canada has adopted certain steps that could be effective in the United States. He underscored the importance of possessing a single, comprehensive, consolidated regulator for the financial services industry. In Canada, this agency is the Office of the Superintendent of Financial Institutions (OSFI), whose mandate is to supervise financial and insurance institutions, and examine them for safety and soundness. Elliott agreed the United States desperately needs to consolidate its overabundant number of regulators, but admitted it would be difficult for Congress to advance the idea of a single regulator because of parochial political interests.

Le Pan suggested that the regulator have clear mandates and accountability, including penalties for banks that do not comply with policy. He advocated a culture of openness between the regulator and other government institutions. Information should be shared openly among agencies to forge consensus so agencies do not work against each other but work toward a common goal. Panelists agreed that what helped Canada to survive the financial crisis is an instrument that the United States has yet to adopt—a single, consolidated, financial regulator.

An American Perspective

Barry Bosworth, a senior fellow in economic studies at the Brookings Institution, reiterated earlier panelists' assertions that the decision of Canadian banks not to engage in sub-prime lending in addition to the Canadian government's centralized regulatory and supervision framework were the major factors that allowed Canada to avoid the worst of the financial crisis. He said if the United States wishes to avoid a similar crisis in the future, policymakers should focus less on creating more regulations and more on coordinating and centralizing existing regulators.

Despite Canada's sound fiscal policy and strict banking supervision, its economy was unavoidably hurt by the crisis as a member of the global economy, given that its largest trading partner to the south is one of the countries most affected. He predicted that while the current economic downturn in the United States has likely ended, there is no telling how sustainable the economic recovery will be, despite proposed reforms to the U.S. financial system. If bailouts are now accepted as the norm, said Bosworth, the U.S. economic system will continue to face instability.

Douglas Elliott recommended creating a set of institutions to enforce strict regulations on the business conduct of large U.S. companies that would help avoid future government bailouts.

Overall, Canadian banks fared better in the global downturn because they made responsible investment choices. Nothing stopped Canadian banks from loading up on sub-prime mortgages as did banks in many other countries. To increase good decision-making in the future, Elliott recommended the United States increase transparency and regulators should increase capital and liquidity requirements. Requiring banks to hold higher levels of capital would increase the opportunity cost of certain investments, forcing bankers to step up analysis of their ventures and thus make better decisions.

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