Facing Failure: Canadian banks in trouble

For decades Canadian banking has been both highly concentrated and loosely regulated. It was a system, though, that seemed to work. The quiet was shattered last month with the collapse of two of Canada’s 14 banks. They were the country’s first bank failures in 62 years. Last week a financial crisis struck a third bank, the Montreal-based Mercantile Bank of Canada, the country’s eighth largest, with assets of $4.4 billion (Canadian dollars). Mercantile, which is 24% owned by New York-based Citicorp, has been facing a severe cash squeeze. Investors who would normally buy Mercantile’s commercial paper have been buying securities elsewhere. Their lack of confidence in Mercantile reflects the bank’s small size and relatively poor loan portfolio, which is burdened with risky oil and real estate loans.

Fearing yet another collapse, Canada’s six largest banks, which together control 95% of the country’s bank assets, have moved to save Mercantile. At the request of the Ottawa government, they have pumped more than $300 million into the ailing bank over the past three weeks.

Mercantile’s troubles follow the failure of two institutions in the oil- rich western province of Alberta: Calgary-based Northland Bank and Edmonton- based Canadian Commercial Bank. Incorporated in the 1970s, the two banks lent millions of dollars to oil and real estate businesses. Then in the early 1980s many of the banks’ loans turned sour. Together the two banks controlled only about 1% of all Canadian bank assets, so the fallout from their failures was limited. But investors are anxious about the safety of smaller banks.

The government is trying to calm the dangerous situation, but so far with little success. The House of Commons began debating whether all uninsured deposits at the two failed banks, meaning all those larger than $60,000, should be given federal protection. John Turner, leader of the opposition Liberal Party, argued against it. “Is there now to be an implicit government guarantee to bail out future depositors in any difficulty?” he asked. The banking failures are exacerbating the political troubles of Prime Minister Brian Mulroney. Two Cabinet members recently resigned; one of them faces possible charges of misappropriating campaign funds.

The bank troubles are expected to lead to tougher government regulation of the industry. Such reforms, though, may come too late for the Mercantile Bank. While the institution may survive, there is wide speculation that it might merge with one of the country’s larger, healthier banks.