The Canadians are coming! 

“To the extent that the [Federal Deposit Insurance Corporation] picks up its activity again [that is, in facilitating purchases of troubled US banks by foreign banks], and I think it likely will, we’re very vigilant around opportunities for complimentary acquisitions…With assistance of the FDIC, we can help convert the best assets into something that’s productive.”

With these words, Canadian banker William Downe, CEO of the Bank of Montreal, signaled a couple of weeks ago that his institution is out to take over US banks weakened by the Great Recession.

Assuming Downe is serious, he has no lack of potential takeover targets among the US’ thousands of small community banks. As the Wall Street Journal’s handy US bank failure tracking tool shows, almost every state has had to wrestle with the ongoing fallout of bank failures.

Recession-weary Americans may look wistfully at Canada’s big five banks and admire their stability during the Great Recession. No major Canadian banks have collapsed, while financial institutions in the US and Europe have floundered and failed. If a stronger Canadian presence in the US banking sector means bringing prudent Canadian banking practices south of the border, Americans may be tempted to roll out the red carpet.

But before anyone rushes to have the US copy Canadian-style banking, or cheer on Canadian takeovers of US banks, a closer look is in order. The Hudson Institute’s Marie-Joseé Kravis took a stab last year at exploring some of the differences between the two systems and why it would be difficult for the US to willy-nilly import Canadian practices.

There are two additional important difference which I’d like to briefly highlight.

First, and without getting into a long history lesson, generally speaking Canadian banks have long been much more conservative in their lending practices than American banks. This cautiousness has had both economic benefits and consequences for Canada. Canadian banks were very stable in the 20th century, compared to their less-risk-averse US counterparts, for example. They can afford to be more cautious in part because they are protected from foreign competition in various ways – an irony given Downe’s aggressive plans for expansion abroad.

There have been consequences due to this cautiousness, too. One problem with this cautious approach, critics of Canada’s banking system have argued, is that entrepreneurs hoping to start a new venture can find it more difficult to raise money from skeptical Canadians bankers than they would in the US.

This makes the way the Canadian banking system functions, from an entrepreneur’s point of view, sound like a parody of what a real banking system ought to do (i.e., it frustrates the country’s economic development, rather than fostering prosperity) - but let it pass for now.

Another difference between the two countries is that because of massive consolidation of Canadian financial institutions over the years around the “Big Five” banks, Canada lacks the vibrant community banking sector that the US enjoys – and this can compound the difficulties facing Canadian entrepreneurs.  

As Canadian comparisons of the two countries’ banking systems have acknowledged, American entrepreneurs can often deal directly with locally-based bankers to secure financing. Entrepreneurs and bankers living in the same community have a commonality of interest, especially around creating jobs locally, that does not come into play when the two sides of  a loan negotiation live far apart.

So, while some Canadians (not to mention Americans) see the US community banking sector as a chaotic mess with far too many small players to be truly stable, other Canadians see the fact the US has so many locally-based banks for entrepreneurs to work with as an economic advantage.

When you hear claims about Canadian banking practices being superior to American banking methods, just remember Ronald Reagan’s line to “trust, but verify.” A thorough look at the advantages and disadvantages of Canadian-style banking, led by whichever Member of Congress  ends up heading the House of Representatives Financial Services Committee after the November elections, would be a good start.

And Committee staffers who want to learn more about the Canadian banking system, from a critical but well-researched perspective, are invited to consult the relevant works of the late Canadian journalist Walter Stewart and the arguments contained therein.

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Neil Hrab

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Monday, Sep 15, 2014

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