How Canadian Banks Survive the Subprime Meltdown - Essay Example

How Canadian Banks Survive the Subprime Meltdown Introduction In the second half of the twentieth century, the economic crisis was associated with the historical dynamics and the capitalist finance contradiction. Compared to the crisis of the seventies, this crisis did not emanate from profitability crisis due to production. It was characterized by inflation which impacted negatively on those who had financial assets. It destabilized the role of the dollar currency. The innovation in finance must have deepened due to the social deepening of capitalism during this period (Robert 17). Risks related to integration of investment, trade and production was influenced by the increase in the securitized financial market coupled with the American finances being internationalized. The global economy was so complex that the risk insurance provided was without capital accumulation which would have had little restriction. Finance infiltrated into the society thus integrating savers, debtors, and investors. The integration of the investors was through mortgage for private housing, pensions that were private and consumer credit. In addition, the witnessed chain of financial crises was due to volatile competition for the global finance. The containment of the predicament required the involvement of states in the attempt of providing the correct antibiotic or remedy (Tony 3). Goals or objectives The main objective of this project is to determine factors that contributed to the Canadian Banks survival during the subprime meltdown of 2008. To achieve the above objective, this paper attempts to validated the factors that contributed to the financial crisis coupled with highlighting the possible avenues that would have prevented or minimized to a greater extend the implications of the crisis (Robert 19). Background During the 2007/2008 financial crisis, the Canadian banks weathered the storm in comparison to other banks in other countries. This left more questions than answers as financial experts tried to dissect into the operations of the Canadian markets. Hence, the banks were not bailed by the government, but ironically the banks still made profits during the crisis. Thus, the paper seeks to not only identify Canadian banking aspects but also validate the aspects or reasons that significantly contributed to the stability of the banks during the crisis (Tony 3). The origin of the crisis is associated with the United States after which it spread to other nations. Canada had endured far less pain during the economic crisis than their neighbors such as the United States. It is approximated that six largest banks in the country had lost close to $11.7 billion which was relatively insignificant in comparison to those experienced in the international arena. Banks such as Citigroup had written off subprime losses which amounted roughly close to $ 39billion of which $ 20 billion were incurred in the previous years before the crisis (Robert 17). The US real estate industry had exposed Canada to losses of especially credits. Moreover, these write downs at the numerous big lenders affected the Canadian banks due to lack of liquidity in the international market arena. All these were associated with the poor crediting of mortgages in the US. Admittedly, Canadian ability to dodge the financial crisis perplexed since they had depended to some extent on the US in terms of trade and investments due to the interconnection of the financial market (Virkram 3). One of the factors that contributed to the financial crisis is the collapse of the Lehman Brothers. Huge amount of taxpayers finance were used to bail out the situation and the effects were still felt five years after the crisis in that the GDP of many rich countries were still low per (Robert 16). The financiers especially the Anglo-Saxon who claimed to have done away with the risks had lost track. The central bankers and other regulators on the other hand accommodated the folly. The financiers faulted in that the year before the crisis in that there were series of irresponsible and irrational lending of mortgage in America. Loans were provided even to those creditors with poor history of payment. The fragility in the financial systems must have been illuminated and exposed by the series of reactions because the American housing system was turned. Moreover, investors were not guaranteed protection (Tony 5). The other factor was the failure of the regulators to anticipate and keep economic imbalance in control besides lack of proper and appropriate oversight of the financial institutions. They had let the Lehman Brothers go bankrupt. The bankruptcy of the Lehman Brother caused fear and panic in the market. Trust on lending had subsided exponentially (Tony 4). Central banks especially the European Central Bank did not put limitations on the periphery by assuming that current account imbalances was insignificant in the monetary union. Central bankers did little to remedy the situation that was characterized by the increase in the housing and credit. They would have combated this by the increasing the interest rates or by lowering the maximum loans in reference to the value of ratio to the mortgages. Moreover, the central bank had the leverage of demanding banks to save more capital (Kirkram 4). In general all these factors emanated from poor modeling of situations that were unable to comprehend not only the perverse and the predictable but also the implications of the structures of incentives that had been created. The models were handicapped to understand the economics behind securitization, systematic risks, and the inability to provide estimates of small events based on probability (Tony 5). Implications of the crisis Methodology Source of data The data that was used in the project was obtained from the five major top banks of Canada as well as other fifteen banks in the country. The five major banks were: the Royal Bank of Canada, the Bank of Montreal, the Toronto Dominion Bank, Canadian Imperial Bank of Commerce, and the Bank of Nova Scotia. The other fifteen banks were: Citizens Bank of Canada, B2B Bank, Bridgewater bank, CFF Bank, Continental Bank of Canada, CS Alterna Bank, Canadian Tire Bank, Canadian Western Bank, National Bank of Canada, Pacific and Western Bank of Canada, Manulife Bank of Canada, President’s Choice Bank, Rogers Bank, Laurentian Bank of Canada, and First Nations Bank of Canada. The other sources of data were retrieved from the United States Banks where the financial crisis was perceived to have originated from. The banks in the US were: the Bank of America, the Citigroup Bank, the Bank of New York Mellon, Wells Fargo Bank, and JPMorgan Chase Bank (Jordan and Lategan 87). The type of data used The main method of data collection employed was the use of interviews and questionnaire. The questionnaire contained both the open ended questions and closed ended questions. The open ended questions were required in situations that required further and deeper insights of information under investigation. On the other hand, the closed ended questionnaires were specifically oriented to certain banking phenomenon. The illuminated methods are qualitative methods of data collection that encompasses interaction with individuals or group of individuals directly. Nevertheless, these methods have limitations that are as time consuming and very expensive. However, they were chosen and preferred to other methods since qualitative approach of data collection is far much richer and provide deeper insights of the phenomenon under investigation (Jordaan and Lategan 87). Several native students with financial education background were recruited for the sole purpose of conducting these interviews. Those who were to be interviewed were the CEOs and at least two members of the board of directors of all the banking industries illuminated above. Moreover, before the interviews were conducted, those who were interviewed were contacted and appointments made after their consent to participate in the research (Jordaan and Lategan 87). Data quality control To ascertain that the data provided by the interviewers to be authentic, they were provided with the recording gadgets which were to be used to verify the authenticity of their interviews. Falsification of data is tantamount to data being skewed hence deviating from the true reflection that is intended to be brought in the light. The collected data were then sorted into an orderly pattern to provide meaningful insights of the financial crisis (Jordaan, and Lategan 87) Analysis The method of analyzing qualitative data was the use of qualitative data analysis (QDA). Finding of the analysis There are numerous factors that are perceived to have contributed into Canadian stability. One of these factors is the existence of the best prudential regulator of the bank. OSFI as the national regulator which was headed by Julie Dickson was mandated to prudential regulation. The OSFI alongside banks works aggressively in a flexible manner that enables anticipation, prediction and mitigation of risks. It is tasked with not only providing guidance and interpreting the guidance but also with the task of ensuring there is compliance to the guidance. OSFI approach of supervision of the internal practices of the banks played a major role in their success. In Canada, banks are expected to run the institutions right while in other nations such as the US, the institutions are embedded with the responsibility of meeting the country’s rules. Payment oversights, settlement of systems, lender resort functions and monetary policies are responsibilities of the Canadian banks (Dave 4). The second factor to the stability is related to the ratios of capital assets. The capital of the Canadian banks was relatively lower in comparison to other national banks in the US before the financial crisis. However, through the OSFI they were expected to be adequately capitalized. The third factor is the imposition of the leverage caps. Of all the G7 countries, only Canada and the US levy leverage caps on their banks. OSFI in its definition of assets incorporated a couple of off balance sheet which included the derivation of credit (Tony 4). The fourth factor was the structure and practices of the market in the country. The five top dominant banks in the climate of the Canadian banking industry have suffocated the market. They have the leverage of engaging in securities associated with insurance and the market. However, the insurance is organizationally separate from the bank. The banks maintained a healthy long term range for financial mortgages since they had maintained a higher share of the mortgages. In addition, the market structure of the banks in the country provided profits consistently for the industry thus enabling the banks to be resilient during the economic turmoil (Robert 17). The next factor is that the market for the mortgage is apparently conservative. In 2008, the markets that were non-prime were done away with since the Housing Corporations and Canadian Mortgage (owned by the government) had literary ceased mortgage insurance. In this country the interest emanating from mortgaging is never deducted. It is a factor or an incentive that tends to lure homeowners into paying their mortgages as quick as possible. Besides, the measures put in place in Canada limits cases of defaulting on loans. The government instituted the Insured Mortgage Practice Program (IMPP) that was tasked with the responsibility of purchasing mortgages that were secured from banks during the duration of the crisis. This helped in the provision for the liquidity to the banks as it gave a free room for the provision of credit (Robert 19). The consumer protection factor also contributed to the thriving of the Canadian banks during the crisis. This protection of the consumers was made possible by the Financial Consumer Agency of Canada which controlled the conduct of the market. The body provided financial education by giving insights in details on factors that contributed to the crisis (Dave 7). Finally the conservative nature and culture of the Canadian played a significant role in combating the financial crisis. Their banks operations were perceived to be conservative characterized by discipline (though discipline was regulated) and mindset that was cultural (Tony 3). Implications of the crisis The major implication of the problem was that it resulted into the instability of the market in the US and other countries. There were sudden changes in the creation of other lines of credit that were different to the existing ones. It disrupted the flow of money, stagnated the emerging growth in the economy, and greatly affected buying and selling of commodities (assets). People, institutions, and businesses held mortgages whose financial values had extremely dropped yet there was need for money to resettle loans. There cash reservoirs were drained thus limiting their credits as well as capability of securing loans. The availability of credit increased the supply of cash has many individuals wanted to buy houses or invest. Unfortunately, their needs for houses and investment converged hence increase in demands which consequently led to the increase in the rate of inflation (Tony 5). The other implication entailed the decline in the housing market in the US. This decline triggered a series of reaction in the economy. Profits for homes had dramatically gone downhill and the mortgages rates became unaffordable to majority of homeowners. This was a factor that led the defaulting of the mortgage payment. The financial institutions providing these services were therefore left with the burden (Robert 20). There were vast loses on the mortgages that were backed with securities. Consequently, the housing prices were depressed, the rate of growth of new homes subsides, and many labors and home builders were completely pushed out of the business. There was also the emergence of economic bailouts that were designed with the aimed of the flow of credit in the system (Dave 4). Conclusion The discussions above try to dissect the possible causes of the financial crisis witness in the year 2008. In addition, it attempts to address the possible loopholes that existed between the financial regulators and central banks of various powerful countries that would have prevented the crisis. Besides, the discussions elaborated above also provide insights that can be adapted by countries during the financial crisis. They further explain the factors that the Canadian banks employed that enabled them to not only survive but also thrive during the economic turmoil. Regulations authorities in numerous countries play major roles in shaping the economic bearing of these nations. Countries with strong regulations such as Canada thrive best in tight economics situations in comparison to those that are not strictly regulated. Countries should limit as much as possible transnational models that discriminates local distinctiveness and orientation since they have higher chances of failure. Achievements As a result of the financial crisis, there have been improvements on the provision of incentives in the United States through sets of reforms. One of the reforms has focused or rather emphasized on the securitization of incentives. Securitization had earlier proved difficult since mortgage originators did not own mortgages. It provided a loophole in that there was less incentive in case the borrowers wanted to pay. The second reform is improved incentives for the agency rating and the financial managers and funds that are hedge (Robert 15). Work Cited: Robert, Elliott. In Crisis, Canadian Banks Survive and Thrive.2008. Web on 13th March 2015 http://www.forbes.com/2008/12/11/canada-banking-crisis-oped-cx_re_1211elliott.html > Vikram, Barhat. Canadian banks a role model for U.S. lenders: Whitney. 2013. Web on 13th March 2015 Dave, Schuler. Why Didn’t Canada Have a Financial Crisis? 2011. Web on 13th March 2015 http://theglitteringeye.com/why-didnt-canada-have-a-financial-crisis/> Tony, Porter. Canadian banks in the financial and economic crisis. 2010. Web on 13th March 2015< http://www.nsi-ins.ca/wp-content/uploads/2012/10/2010-Canadian-Banks-in-the-Financial-and-Economic-Crisis.pdf> Jordaan, G.D, and L.O.K Lategan. Modelling As Research Methodology. Bloemfontein, [South Africa: SUN PRESS, 2010. Print. . Read More