February 23, 2024

Canadian banks are using synthetic risk-transfer tools to balance the risk on their books to meet Canadian regulator's capital buffer rules.

A synthetic risk-transfer is similar to the nonsense that happened around credit that contributed to the pre-2009 financial crisis. Essentially, banks are pretending that their books are better than they are by offloading parts of the risk that debts that are owed them that are particularly "risky" will not be paid (i.e., high cost credit that probably should not have been loaned out).

It is synthetic because it is a collection of risk of the loans' value, not the loan itself, that is being bought and sold.

The number is a little large: C$86.6 billion and is growing.

It is not necessarily a bad thing, but it does shows the extent that financial institutions are leveraged and the type of that leverage. The banks use these tools in an attempt to spread risk they have created to other less regulated parts of the system. This does not really result in the outcome regulators are looking for, which is reduced risk across the system through regulating banks.

The only good thing is that the amount of leverage seems much clearer when banks quantify and sell their more risky debt. However, it adds complexity and obscures a lot of the reason that this debt is risky. The illusion of safety.

Of course, BMO is front and centre.

A new report, which I think provides absolutely terrible (read: neoclassical) analysis does have some nice graphs.

It seems as though recent foreign capital investment in Canada is focused on owning resource over new investment. Not only does this drive down productivity growth in Canada, it is generally not what an economy is looking for from foreign investment.

I think it paints a clear picture that the Canadian state needs to step-in and invest in productive capacity during downturns. But, of course I would say that.