Meanwhile in Canada . . .

CBC's The Current this morning interviewed Stanley Hartt, the chair of the Advisory Committee on Financing. Finance Minister Flaherty describes the role of the committee this way:

Specifically, the ACF will provide expert advice to the Government on financing conditions and on the design, scope and scale of initiatives under the Extraordinary Financing Framework (EFF) and advise the Minister of Finance on their implementation and effectiveness. The EFF consists of up to $200 billion in existing and new measures to support the extension of financing to Canadian businesses and consumers during these exceptional times.

In the interview, Hartt, a former deputy minister of finance, indicated that what for him are very important questions remain to be answered, includng:

• how much of the $200 billion has been rolled out;
• what gaps does this leave (presumably in bank capitalization);
• and how and through what institutional mechanisms is it to be rolled out.

In other words, there appears to be little or no accountability on the part of the Federal government for this vast sum. And it appears to be making up implementation as it goes along.

If our banks are in such wonderful shape, why do they even need this.

And where is the opposition on this. In February, I spoke to the NDP Finance critics office about EFF and they appeared to have little interest in this. And the Liberals have been silent. This amount represents a seventh of our GDP. We deserve so much better than this.

Taking a Step Back

I haven't commented much on the debate swirling around the vast increase in the profitability of the financial sector, and the contribution to this sector to the greater public good. Though I am still searching for comparable Canadian figures, in the U.S., at the onset of the current crisis, financial sector profits had risen from 20% to 40% of all profits in just a few years. It seems likely that Canadian figures are not all that different.

Why, then, do we allocate so much to this sector? The baseline function of any financial sector is to aggregate resources and efficiently allocate these. But more and more, the corporate sector raises its own resources. Or perhaps it is to develop innovative investment vehicles, but we all know how that has turned out.

I think Yglesias hits the nail on the head

Could it really be the case that so many people were naive enough to trust their monies to institutions that were only claiming to have brilliant investment models? Well, it seems to me that it could. And that this would explain why it might make sense for a firm financial firm to pay Larry Summers $5 million a year for a one-day-a-week job. When your company’s underlying product isn’t necessarily sound, it’s important to invest a lot in marketing. Summers is like a celebrity endorsement. This is also a reason, I think, why having gone to a fancy college seems to have been very helpful for getting a job in finance. The firms’ business models very much depend on putt (ing a certain image of themselves forward.

In other words, as I commented earlier, trust in elite MBAs, buttressed by relentless image building and a unified message (invest for the long haul, don't lock in your losses) have led investors to naively trust financial advisors and to stay with them through a devastating downturn. Our lack of financial superstars in Canada is more than offset by our deference to authority -- even incompetent authority.

How Stable are Canadian Banks?

With Canadian banks being praised throughout the world for their stability and soundness in the face of a worldwide financial crisis, it might seem churlish to raise pointed questions about their health. Yet there are a few questions that I think at least need to be considered.

The question of the health of the banking sector first arose for me with the Harper government's Extraordinary Financing Framework introduced in the January budget. This initiative has earmarked $200-billion largely for the purchase of bank assets. This is an astronomical sum even if, as the government claims, the assets purchased will be performing assets and that there will be no cost (it is thus not a fiscal matter) and perhaps even a profit.

The question this raises for me is why, if the banks are so healthy, do they need this amount of backing, particularly at a time when they do not seem particularly anxious to lend? Could it be that their balance sheets include assets whose value is at risk or uncertain? And is the government set to purchase (or have they already purchased) assets that might be a good deal less stellar than we have been led to believe?

In his column today in the Globe and Mail, Jim Stanford, economist for the CAW, strongly suggested that balance sheets are less than they seem, stating:

Believe me, if Canada's banks were truly stable, Ottawa wouldn't have pumped $200-billion into the system.

In another column in today's Globe, Fabrice Taylor reminded readers that whatever press the banks are getting, markets aren't buying it, as reflected in share prices. So what is on those balance sheets? And surely more important, how are they being valued?

It turns out that last October the accounting rules for banks were substantially altered by the Canada Accounting Standards Board. These changes allowed banks to reclassify many investments to which fair value or mark-to-market accounting rules had applied. And these changes were backdated to July 1, 2008, to allow their effects to be reflected in the fourth quarter earnings which now look so favorable.

What does this mean? It means that assets for which there is little or no market (many of which have been termed "toxic assets") can now be re-evaluated or removed from balance sheets, making the banks appear healthier than they really are. As Hugh Anderson of the Financial Post noted last fall,

It's quite possible that such reclassifications will enable banks to report substantial net income boosts from reversing previous writedowns. Simultaneously, assets off the balance sheets will grow.

So I have two questions. First, to what extent are these changes reflected in the banks surprisingly rosy outlook? And second, what is our government buying with its $200-billion?