Bowing Before the “Boring” Lenders of the North

by Inya Ivkovic, MA

Canadian banks have long been labeled as the “boring lenders of the North.” But last year they raked in CDN$12.0 billion in profits and needed no bailout money from anyone. I guess that was enough to re-brand “boring” as the new “banking success story.”

The Canadian banking system has a lot to be proud of. Canada’s government and central bank did not have to invest a single penny in the nation’s 21 banks. All were profitable last year, in spite of the global recession and the rest of the world teetering at the brink of disaster. Since 1923, only two Canadian banks have failed, both in 1985. As for Canada’s “Big Five,” they haven’t cut their dividends since the Great Depression. Now, money managers and bankers from Australia, Brazil, China, France and Ireland have decided to take a trip to Canada with their notepads in hand to learn a lesson or two about responsible banking from the “boring guys.”

How did Canada’s banks do it? The reason they are still making money is the country’s tough and infinitely more conservative regulatory environment, requiring, among other things, having a much larger cushion of capital reserves. Additionally, Canadian banks are governed by much more stringent risk-management techniques, which resulted in steering clear from risky loans and securities.

Outside Canada, things are radically different. Global financial systems have lost so far $1.2 trillion in the credit and financial crises fallout. Just U.S. Citibank lost over $37.0 billion over last five quarters. In contrast, Canadian banks have all been profitable and have maintained capital reserves averaging almost 10% of their assets, which compares to seven percent required by the Canadian regulators and six percent required for U.S. commercial banks.

The secret to their success is multifold. For example, banks in Canada can lend a maximum of 20 times their capital base and have stayed well below that limit. In contrast, that multiple in Europe is 30 times, while banks in the UK and U.S. have gone over 25 times their capital base.

Furthermore, Canadian bankers did not take the subprime bait and have invested only about five percent of their total portfolios in what are today labeled as toxic assets. That same ratio is 20% in the U.S., where greed and vicious competition among lenders resulted in the “lending under influence” fiasco and favoring high-risk borrowers as sources of new revenues.

Canadians have been smart about one more thing; that is, unlike Americans, our northern neighbors cannot deduct mortgage expenses on their tax returns. Such taxation policies serve also as inherent deterrents for borrowers to avoid taking on too much debt.

Of course, not even “boring” Canadian banks could have escaped the global economic crisis completely unscathed. In an effort to prevent choking of the country’s money and credit flow, the government has set up a dwarf of a bailout compared to the U.S., but still Canada’s largest economic stimulus ever to the tune of CDN$218 billion. The money is intended to help guarantee Canadian banks’ debt and to help them compete with the U.S. and European lenders that are backed by bailouts of epic proportions. Yet, so far, Canadian banks haven’t had either the need or inclination to tap into that money.

Such strength of Canadian banks is certainly offering a reason not only to be boastful, but to be in a much better survival position. The ripple effect of the global economic crisis has reached Canada, too, no doubt about it. The country’s economy is expected to shrink by about 1.2% in 2009. However, a slowdown of such a moderate scale is certainly preferred to a complete meltdown — the kind that Island and certain Baltic countries are experiencing right now.