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Banking reforms: Lessons from Canadian regulatory system



 November 11, 2011

Do you know that the global recession that hit the world’s financial sector, which started from the United States of America did not affect Canadian financial sector?

In 2011, the World Economic Forum named Canada’s banking system, the world’s soundest, which makes it the fourth year in a row that the Canadian banking system ranked number one in the world. BUKKY OLAJIDE identified robust risk management as one of the major factors that characterize Canadian banks.

IT is a known fact that Canada’s banking system is the World’s soundest. So many reasons could be responsible for this.

First, Canadian banks are well managed which makes them less prone to risk-taking than their counterparts in the United States and Europe.

They are well regulated, forced to adhere to stricter rules than those that govern most other banking systems including those in the United States.

Canada’s banks are also well-diversified organisations whose investment banks are anchored by solid deposit taking institutions.

Consequently, the banks are well capitalised, having more cash-on-hand than most similar institutions in the developed world, taking a very conservative approach with their investors’ funds.

The country’s system of national institutions diversifies regional risk, so a downturn in an individual economic sector is balanced while national system contributes to economic growth by moving funds from areas of excess deposits, to regions where growth is creating demand for new credit.

At the yearly lecture of the Chartered Institute of Bankers of Nigeria ((CIBN) which took place recently, the choice of Canada and specifically the Royal Bank of Canada as the reference bank is informed by the facts that Canada remains the only big economy in the world not affected by the global economic meltdown.

The Royal Bank of Canada, apart from being the largest bank in Canada, as observed by the President of CIBN, Mr. Laoye Jaiyeola, has very robust risk management and governance framework that ensured its withering through the global economic crisis unscathed.

“The banking system of Canada is strong and resilient and we need to hear how they make it,” said Jaiyeola.

The yearly lecture of the CIBN is a traditional public policy lecture instituted to acquaint the Nigerian public with developments in both the local and global economies.

With this year’s theme: “Building a Resilient Financial System to withstand External Shocks: Lessons from selected economies, the lecturers over the years have been delivered by renowned experts in chosen contemporary areas of the economy.

Speaking at the event, Mr. Richard Gorab, a senior banker with RBC Wealth Management said that Canada’s banks were well-diversified organisations whose investment banks solid deposit were anchored by solid deposit-taking institutions.

According to him, Canada’s system of national institutions diversified regional risk, so a downturn in an individual economic sector was balanced, saying that National system contributed to economic growth by moving funds from areas of excess deposits to regions where growth was creating demand for new credit.

Banks in Canada made lending decisions on a case-by-case basis, extending credit to those who have the capacity to repay their loans.

Gorab explained that this prudent approach was a key reason why banks in Canada had largely avoided the problems that had plagued banks elsewhere.

In a survey by the strategic counsel, 81 per cent of respondents believed that prudent lending was a key reason Canadian banks had performed better than their international peers.

The senior banker stated Canada’s streamlined bank regulatory system with two primary regulators: The office of the superintendent of financial institutions for prudential regulation and the financial institutions for prudential regulation and the Financial Consumer Agency of Canada for consumer matters.

In contrast, the United States has a complex network of different regulators.

The second one is Canada’s Bank Act, which is reviewed and updated every five years to ensure the regulatory structure, which is in keeping pace with changes in the industry.

Meanwhile, Canada has also been recognised by the International Monetary Fund and others as having a sound regulatory system.


Talking about mortgage lending in Canada, it is said to be stable and prudent. In fact, Canada’s mortgage market has several fundamental differences from the U.S. market.

This is because in Canada, the vast majority of mortgage loans are prime. Gorab said that Canada did not have the same problems with sub-prime mortgages that had been at the root of the problem in the U.S.

He mentioned many high-risk mortgage products in the United States that did not exist in Canada. These were adjustable rate mortgages, with unrealistically low introductory interest rates that could rise substantially, interest only payments, where the mortgage principal was never lowered.

Other high-risk mortgage product included negative amortisation payment schedules with payments that were less than the interest charged, and no documentation lending.

Looking at key differentiators points, Gorab explained that when American house prices decreased, many borrowers found that their mortgage was higher than the value of their house and unaffordable.

According to him, Canadian mortgage products had not had these high-risk features and had stood the test of time as interest rates and house prices go up and down.

As a result, he added that Canadian homeowners had maintained a healthy amount of equity versus debt in their homes.

Therefore, these facts were established: Overall home equity was at 72 per cent of the total value of housing in Canada and for home owners who had mortgages, equity levels average 50 per cent.

Furthermore, in Canada, the lenders tend to hold the mortgages they originated whereas in the United States, the model was an originate to distribute model through securitisation.

Also Canadian mortgage originators had a much greater incentive to be prudent because they directly bear the consequences of important lending decisions.

A report of the Annual State of the Presidential Mortgage Market in Canada stated that bank mortgages with less than 20 per cent down must be insured, which makes Canadians careful borrowers and this was not the case in the U.S.

The report stated that in June 2011, just 0.41 percentage of mortgages were in areas, that is, with seven Canadian largest banks, whereas, the rate of arrears in the United States was more than ten times higher in Canada.

Who benefits more? Gorab stated that a strong and stable banking system benefitted all Canadians.

Stating benefits to tax payers, Gorab explained that Canadians had not had to bail out financial institutions inject capital into institutions or set up public entities to buy toxic assets.

And to maintain consumers access to credit in an environment of stalled global credit markets, the Canadian government acted to increase liquidity by buying more than $69 billion of safe, insured mortgages from the banks through the Insured Mortgage Purchase Programme, but which had ended.

Stating benefits to consumers, the senior banker observed that Canadians continued to have access to a banking system that was accessible, affordable and competitive.

According to him, Canadians remained confident in the safety of their deposits, and continued to make use of affordably priced credit while lending to consumers had increased throughout the economic downturn.

As benefits to business owners, Canada’s banks remained open for business and committed to providing credit. Meanwhile, banks have been filling a credit gap as some other lenders have exited the market.

Said the IMF: “Financial conditions have tightened but strains are considerably less severe than in other major countries and credit growth remains solid, both of which reflect a resilient financial system.”

Benefits to investors included in the fact that most Canadians were shareholders in Canada’s banks either directly or through pension and mutual funds.

Also, pension funds and others are key beneficiaries of the billions of dollars of dividends that banks pay each year while the amount paid in dividends for 2010 was Cad 10.3 billions.

As Gorab noted, the health of Canada’s banking sector meant banks could continue, as always to contribute substantially to the Canadian economy including the $8.3 billion that banks paid as taxes to all levels of government.

The banking sector apart from contributing approximately 3.4 per cent to Canada’s Gross Domestic Product (GDP), full time bank employment has increased by 21.5 per cent in the past ten years.

It also provided financing to 1.6 million small and medium-sized businesses and provided multi-million dollar support for Canada’s charities and not-for-profit community groups.

“A stable and strong banking system is at the heart of Canada’s economic recovery,” said Gorab.

Meanwhile, moving towards fiscal responsibility, the Canadian Federal Government has always tried to eradicate its deficit.

From 1975 to 1997 Canadian Debt to Federal GDP rose from 10 per cent to near 70 per cent.

At the height of the Canadian debt crisis in 1994, the country had a budget deficit of around nine per cent of GDP. The following year, the Prime Minister, unveiled a budget with spending reduced by 20 per cent. By 1997 the deficit had been eradicated.

From 1975 to 1997 Canadian Debt to Federal GDP rose from 10 per cent to near 70 per cent. The Canadian debt peaked in 1994, with budget a deficit of nine per cent of GDP. The following year, the budget reduced spending by 20 per cent. By 1997 the deficit had been eradicated.

Strategy Canada used for debt reduction

The first success was to secure public support for deep and painful cuts.

Cuts would be shared by all sectors of society.

The process was transparent with ministers vetting budgets in front of a “star chamber” committee including the Prime Minister.

The government moved quickly to show progress

The focus was on cuts; tax increases were low to allow the economy to grow.

Also speaking at the event, the group head of RBC Wealth Management, Mr. George Lewis said that the RBC bank was one of the 20 largest banks globally.

A universal bank with financial strength, with selective focus globally, Lewis said that it was active in all banking areas in Canada with leading market positions, emphasising its global capabilities in capital markets and wealth management.

With a diversified model with the right mix of businesses and geographies, Lewis said it was able to generate significant returns throughout the economic cycle, as well long term strategic balance with 75 per cent retail banking, wealth management and insurance business coupled with 25 per cent capital markets businesses.

“We continue to invest in our businesses while focusing on cost effectiveness with robust capital position and senior debt ratings,” said Lewis.

RBC has also been able to diversify model with the right mix of businesses and geographies. Lewis added that they were able to manage for long term success by continuing to invest in their businesses to drive revenue growth.

“We have strong shareholder returns and history of delivering stable and growing dividends with strong earnings generation and consistent increase in shareholder value,” he said.



Source: The Guardian / Bukky Olajide



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