The U.S. Needs to Take Some Lessons from Canada
March 23, 2010
One of our favorite financial bloggers, Prof. Mark Perry of Carpe Diem, published an article in The American last month highlighting the differences between the U.S. and Canadian banking and mortgage systems, and finding that the Canadian systems far surpassed that of the U.S.
In Due North: Canada's Marvelous Mortgage and Banking System, Prof. Perry highlights how Canada did not have nearly the real estate bubble and resultant corrective crash in home prices that occurred in the U.S.;
That Canada did not experience anywhere near the level of mortgage delinquencies and home foreclosures that the U.S. did;
and that Canadian banks remained profitable and reported positive returns on equity even during 2008, the worst year of the meltdown, a time when U.S., U.K. and European banks lost money and had negative returns on equity.
Prof. Perry also found that:
And this recent financial crisis isn't the first time that Canada's banking system showed greater signs of stability and less exposure to stress than U.S. banks. In the 1930s, when 9,000 U.S. banks failed during the Great Depression, not a single bank in Canada failed. When almost 3,000 American banks failed during the Savings and Loan (S&L) Crisis, only two small Canadian banks failed in 1985, and those were the first bank failures in Canada since 1923. And while almost 200 U.S. banks have failed since the start of the global recession in early 2008, Canada remains the only industrialized country in the world that has survived the last two years of financial and economic stress without a single bank failure.
The professor's article describes in concise detail more than eight reasons why the Canadian systems are better than that of the U.S. In short the reasons are:
1. Full recourse mortgages in Canada.
2. Shorter-term fixed rates.
3. Mortgage insurance is more common in Canada than in the U.S.
4. No tax deductibility of mortgage interest in Canada.
5. Higher prepayment penalties in Canada.
6. Pubic policy differences for low-income housing.
7. Differences in Canada's bank concentration and greater diversification
8. A few other reasons such as lower rate of loan originations by mortgage brokers and far less mortgage securitization in Canada.
Prof. Perry concludes his article with:
Taken together, the features and regulations of banks in Canada outlined above create a healthy and sound "pro-lender" environment absent of political motivations for outcomes like greater homeownership, compared to the often politically motivated "pro-borrower" and "pro-homeowner" policies of the United States. While Canada's banking system has promoted responsible borrowing and prudent lending and underwriting practices with little politically motivated interference, the U.S. banking system seems to have encouraged excessive lending to risky borrowers because of the political obsession with homeownership.
Canada's banks are generally ranked as the safest and soundest in the world, and their non-politicized banking system could provide a model for banking reform in the United States. Moving towards the Canadian banking system could go a long way towards stabilizing our mortgage, credit, and housing markets and make us less vulnerable to financial shocks in the future.
