Mark Carney finally gave some evidence to back up what had been until today’s release just a claim about the relative health of Canadian Banks.
Canadian institutions are in considerably better shape than their international peers. Their losses on structured products have been relatively modest.4 More importantly, their absolute leverage is markedly lower. As a simple illustration, major Canadian banks have an average asset-to-capital multiple of 18. The comparable figure for U.S. investment banks is over 25, for European banks is in the 30s, and for some major global banks is over 40.5
My question is why are Canadian banks so “lightly” leveraged in comparison with their peers? Is this a case of regulation, a culture of prudence, or both?
Now to the subject of my post. The following quote from Carney’s speech:
While the globalization of financial markets and services has led to a more efficient allocation of capital on a global scale, it has also made it easier for financial difficulties to spread across national borders.6
Let us re-assemble that.
Proposition (A): Financial globalization has led to a more efficient allocation of capital.
Proposition (B): Financial globalization has made it easier for the transmission of financial difficulties .
Translate (A): Capital is free to move where it finds the best risk/return (effeciency).
Translate (B): Capital is free to move out of where it was effeciently missallocated.
Rewrite: Globalization has led to a more effecient allocation and misallocation of capital.