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Why Were Canadian Banks More Resilient?. Lev Ratnovski and Rocco Huang IMF WP 09/152. Canada. Six nation-wide, universal banks Domestic, Carib /LA, US operations No failures, no public capital Banks able to raise capital early in the crisis. The paper. Policy-oriented study
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Why Were Canadian Banks More Resilient? Lev Ratnovski and Rocco Huang IMF WP 09/152
Canada • Six nation-wide, universal banks • Domestic, Carib/LA, US operations • No failures, no public capital • Banks able to raise capital early in the crisis
The paper • Policy-oriented study • Large OECD banks (assets >100B) • Which key pre-crisis fundamentals… • Capital ratio, Balance sheet liquidity, Funding … best predict performance during the crisis? • Equity returns, Jan 2007 - Jan 2009 • Qualitative: public intervention, degree of stress • Canada • Bank fundamentals + Specific regulations • Wider implications for recent debates
Capital Ratios Equity / Total assets Equity is balance sheet equity = Assets – Debt
Balance Sheet Liquidity Liquid assets / Total assets Liquid assets = claims on government, other banks, parts of trading book
Funding Structure Deposits / Total liabilities Deposits = retail, interbank, transaction accounts
Summary • Capital • Important to have above critical minimum • Important in wholesale banks • Balance Sheet Liquidity • Important in explaining imminent failure • Depository Funding • Important in explaining failure • Canadian banks: outliers, ample retail deposits • Fundamentals matter
Canadian Regulation • Above-Basel risk weighted capital targets • 7% tier 1 (instead of 4; banks hold 10-12%) • 10% tier 2 (instead of 8) • Quality of capital: 75% of tier 1 in common equity • Leverage ratio (“assets-to-capital multiple”) • 5%, based on tier 1+2 • IB and off-balance sheet consolidated • Direct effect (buffers) and incentive effect (focus on core business) contained asset growth • Quality transparency
Canadian mortgage markets • Limits • 80% LTV • 32% mortgage service-to-income • 40% total debt service-to-income • Simplicity • 5 year max; Plain vanilla (e.g. no teaser rates) • Incentives to repay • Interest payments not income-deductible
Summary • Capital • Important to have above critical minimum • Important in wholesale banks • Balance Sheet Liquidity • Important in explaining imminent failure • Depository Funding • Important in explaining failure • Canadian banks: outliers, ample retail deposits • Fundamentals, policies, incentives matter