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How to save U.S. banks? Act like a Canadian.

Analysis: Lessons from True North

BOSTON — Most Americans would be willing to wear flannel shirts and eat moose for the next year if it would get us out of this economic mess. Since it won’t be that easy, we might actually have to take some lessons from our very successful banking neighbor.

Not one Canadian bank has failed or received government bailout money since the credit crisis began in the summer of 2007. As 10 of the biggest U.S. banks struggle to raise $75 billion in total capital, as required by the Federal Reserve’s recent stress-testing, American bankers are trying to figure out just what True North did to make its banking system the soundest in the world.

In the past decade, as top banks in the U.S., the U.K., Switzerland and Japan destroyed wealth, Canada’s banks created it, according to economist Jan Vanous. In his study, “Global Banking Rubble: Analyzing the Decade of Western Bank Value Destruction,” Vanous and his researchers estimated that the top 20 value-destroying banks in the U.S., the U.K., Switzerland and Japan eliminated "a staggering 56 percent" of market value from May 1999 to mid-March 2009. During the same period, the market value of Canada’s major banks increased 85 percent.

As U.S. banks shrink by selling off real estate and businesses to increase liquidity, the Canadian banks are expanding. Toronto Dominion’s TD Bank now has hundreds of locations up and down the East Coast. As U.S. banks recoil from international lending, there is more pressure on Canadian banks to fill the void. Some are predicting that Toronto, already Canada’s financial center, will play an increasingly important role in global banking.

What did Canada do right? It learned powerful lessons from a couple of significant failures. In the mid 1980s, two Canadian banks tanked and the government had to pay an unprecedented amount of money to insured and uninsured depositors. The government commissioned several studies to find out why the banks had failed and to offer proposals to prevent such failures in the future.

In 1987, the Office of the Superintendent of Financial Institutions (OSFI) was created to merge two previous agencies in an effort to modernize Canada’s banking and insurance regulatory framework. As OSFI intervened in subsequent bank failures, the government kept modernizing its financial statutes. OSFI’s role has been refined over the years, but now it has a clear mandate to focus only on solvency and risk management for banks and insurance companies.

One of the ways OSFI helps banks manage risk is by requiring greater capitalization. In mid 2008, as the world credit crisis approached full meltdown, the capital adequacy ratio for Canada’s banking institutions stood at about 9.8 percent compared with just 8.5 percent for  U.S. banks. European banks had even less capital on hand, closer to 8 percent.