Abstract: Lessons from the Failure of the Canadian Western Banks: The Risks of Reversing Longstanding Public Policy

James Darroch and Charles McMillan

Abstract

We examine the effects of public policy goals on the development of the Canadian financial system and economic development. In the nation-building years of the nineteenth and early twentieth century, Canada opted for a highly centralized, national banking system. This policy was guided by concerns over the efficient pooling of domestic and international funds that would be attracted by a stable banking system in a commodity producing country. Oddly enough in a country that often favored public enterprise over private enterprise in the financial sector, the private sector was preferred over the public. While there was no question that this choice served the nation well, tensions began to arise between central policies and needs and aspirations of the regions especially in the latter half of the twentieth century. This culminated in the creation of small Western regional banks in the 1980s. This development was not only a watershed in public policy toward the banking system, but also revealed how past policy decisions promoting concentration and stability made it very difficult for new entrants to succeed. The paper concludes by noting that we need to study the co-evolution of capital markets and financial institutions in Canada. The evolution of the banking system in many ways retarded the development of national capital markets in a manner to limit options facing existing players and new domestic entrants.