Harper government pushed financial deregulation

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Listen to Stephen Harper and you might think Canada plays to our nationalstereotype when it comes to the world of finance. We might be boring but atleast we don't stand for the risky policies adopted by our American cousins.

In response to a pessimistic Merrill Lynch report on Canada's housingmarket, for example, Harper said "We don't have the same situation here withthe mortgages as was the case in the U.S. with the subprime mortgages there.So, therefore, I think that our market is in a much stronger position."

There are differences in the Canadian and U.S. housing markets, differencesthat can generate sharply contrasting points of view on whether Canada willexperience a housing meltdown comparable to the one in the U.S.

The thing is, the Harper government is responsible for pushing the envelopeon deregulation both domestically and internationally despite cautionaryevents in the U.S. clearly indicating what could go wrong.

In his first budget as Harper's finance minister, Jim Flaherty invited "newplayers" - that is, U.S financial corporations - into Canada's mortgageinsurance market and doubled the amount of government money available toback up private insurers from $100 billion to $200 billion. Flaherty's 2006budget states that "These changes will result in greater choice andinnovation in the market for mortgage insurance, benefiting consumers andpromoting home ownership."

New York Times columnist Paul Krugman has observed that "financialinnovation" are two words that should henceforth strike terror into thehearts of investors. With the entrance of new private mortgage insurers intoCanada after the Flaherty budget, Canada saw a dramatic weakening in thestandards for mortgage insurance. This enabled Canadians to get into homesthey otherwise couldn't have -- and in many cases shouldn't have. It alsokept house prices rising. In fact, Canadian median house prices peaked thisyear at levels higher than median prices at the top of the market in theU.S.

In November 2006, Canada Mortgage and Housing Corporation responded to thecompetition from private insurers by starting to insure no-down-payment,interest only, and 40-year amortization mortgages. A CMHC spokesperson wasquoted in the National Post as saying: "We're the third guys coming up tothe plate with these products. AIG has done it, GE has done it. We're justdoing something that's in the marketplace."

Competition from U.S.-based mortgage insurers meant risky products rapidlytook over the Canadian mortgage sector. Forty percent of new mortgagesapproved in 2007 were amortized over 40 years, and in overheated marketslike Alberta's, the percentage was even higher. By 2007, there was clearevidence from the U.S. on the hazards of loose mortgage standards, but theHarper government did not step in to tighten regulations here.

If the Tories had really wanted to make houses more affordable for lowincome Canadians, one thing they could have done was to reinstate CMHC'ssocial housing programs. Innovative mortgage products do not docash-strapped families any favours. Rather than being considered a break forlow income people, mortgages with lengthy amortizations should be regardedas an extremely expensive way to buy a home. An analysis in the Toronto Starpointed out: "A 40-year mortgage [on a $350,000 home] will save you $73 aweek on payments but cost an extra $254,000 in interest than if you hadopted for 25 years. It's a trade-off that works way better for the bank thanyour personal finances."

As the Canadian economy turns sour, what will be the cost of Canada'sexperiment with mortgage innovation? In what may turn out to be atoo-little, too-late intervention, this summer Flaherty limited CMHC toensuring mortgages of homebuyers who can make at least a five per cent downpayment and who amortize their mortgages over a maximum of 35 years. The newrestrictions will only take effect as of October 15, 2008, essentiallyclosing the barn door after the horse has bolted.

On the international stage, Canada is a major proponent of financialliberalization.

At the WTO, Canada heads a group of delegations pressing developingcountries to open their economies to the supposedly superior services offoreign financial institutions. The world's major financial conglomeratesare claimed to have sophisticated risk management capabilities that canstabilize economies. You might think these days such a claim would not passthe laugh test, but that did not stop financial liberalization from beingpushed at the WTO ministerial meeting held in July 2008.

The enormity of what's at stake in the WTO financial sector negotiations isrevealed in a February 2006 bargaining request sent from Canada's Departmentof Finance to developing countries. Canada asked that foreign financialinstitutions be guaranteed rights to "establish new and acquire existingcompanies" in all financial sectors. This would mean among other things thatcountries would have to allow 100 per cent foreign ownership of their banksand insurance companies.

Canada has also asked that companies be given WTO enforceable rights totrade in derivatives, which has been described as a high-octane form offinancial speculation similar to gambling. Warren Buffett famously calledderivatives "financial weapons of mass destruction," destruction that isbeing witnessed on a daily basis on the world's stock exchanges.

While successive Canadian governments have been strong advocates offinancial liberalization, the unfolding financial crisis might havesuggested now is the time to show a little caution and back off these WTOnegotiating demands. Yet a WTO submission from Canada dated Dec. 5, 2007,berates other WTO members for their lack of "ambition" in the financialservices negotiations. On behalf of the co-sponsors of the submission,Canada claimed: "further liberalization of financial services will helppromote economic growth and improved standards of living for all WTOMembers."

It makes one wonder. Just how bad would things have to get before the Harpergovernment realizes further liberalizing the world's financial markets isnot such a great idea?

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