Canadian banks should be broken up, with the core functions turned into a public utility, and the riskier parts of the banks left to fend for themselves, a new report argues.
The report was released by independent research organization the Canadian Centre for Policy Alternatives (CCPA). It says that the Canadian banks are not immune to the problems witnessed in European and U.S. banks during the financial crisis.
Indeed, it says that all banks, which use leverage, are inherently vulnerable to failure, which can threaten overall systemic stability and the global economy.
Additionally, it notes that the banks benefit from special government protection, including the extraordinary liquidity that was provided during the financial crisis, and the routine provision of public mortgage insurance and deposit insurance. “Canadian banking has benefited from a long-standing tradition of powerful and consistent governmental support and protection,” it says.
And yet, the Canadian banks have become overconfident, it suggests, due to their outperformance during the crisis; which has stifled public debate about the need for reform. “In Canada, all of these concerns are obscured behind a mantra of self-congratulatory denial. Canadians have been lulled into complacency with incessant platitudes portraying Canadian banks as somehow more virtuous than their competitors elsewhere, or Canadian regulators as somehow more far-sighted than regulators in other jurisdictions. This is a very perilous delusion,” it warns, and calls for a public debate on how to reform the banking industry in light of the extraordinary risks they pose for the financial system and the real economy.
The paper aims to stoke that debate with a couple of radical reform proposals. For one, it says that there should be special taxes on bank profits to reflect the support provided by the government.
It also argues that regulation alone is not enough to curb the systemic risks these firms face. “If profits are sufficiently lucrative, banks will be enticed to find ways avoid regulatory deterrents. Regardless of capital requirements or other safeguards, the incentives for banks to behave badly can overwhelm the ability of regulations to constrain bad behaviour,” it says, adding that the big banks have the resources and expertise “to exploit every opportunity to overcome the letter or the intent of regulation put in their path.”
Instead, it says the banks should be divided into their ‘core’ functions and riskier ones. “If a bank accepts the protections of deposit insurance, access to lender of last resort support and other sources of emergency assistance, it should be required to forgo non-bank activities. Other financial activities can continue in non-bank financial sector firms, but they must continue without benefit of a government safety net,” it suggests. “Financial markets would be well served by the demise of those activities that are not viable without the protection of government support.”
“The message sent to banks and financial markets by firmly separating core banks from other for-profit financial sector firms is that the public will no longer be imposed upon to save all manner of financial sector activities from the consequences of reckless, unproductive risk-taking,” it says.
However, it also says that the creation of “core” banks will not, by itself, be enough to address the problems with the existing system. There will be powerful incentives to subvert the distinction between core banking activities and other financial activities, it says. “So long as banks are private, for-profit corporations operating in a competitive marketplace, it will be extraordinarily difficult to prevent abuse of the public safety net supporting core banks. The profits to be made by imposing on government safety nets are lucrative, and the competitive pressures to so will be irresistible,” it says.
And so, ultimately, it concludes that they must be socialized. “… banks should be viewed as having a public service mission, accomplishing many tasks (such as creating credit money and clearing transactions) that are in the public interest by conducting the rather boring (but mildly profitable) business of taking deposits and making loans,” it says.
“As challenging as it is to examine meaningful proposals for change, the alternative is worse,” the paper warns. “Inaction bred of complacence threatens us with a repetition of the spiral of instability that brought the world to the brink of financial chaos in 2008… If we are seduced by the reassuring spin of bankers and their allies, we are complicit in allowing the myth of Canadian exceptionalism to blind us to ways in which the status quo threatens us with future banking crises.”