The G20 protesters about to descend on Toronto may be on to something when they say that banks in this town are too powerful.
Shutting down much of downtown Toronto for the Group of 20 leaders' summit later this month is going to cost well north of $1-billion, once the economic toll of business disruption is added to the security cost.
The return on that investment is supposed to be the exposure Canada gets as a financial centre, leading to more jobs as banks choose to locate here. The pitch goes something like "Come to Toronto, where winters and the food aren't much worse than New York, but the regulators are competent, and there's no bank tax to get in your way."
It's not just the federal government dreaming the dream of more bankers and traders whose bonuses can trickle down into the rest of the economy; Ontario too is pushing the idea of Toronto becoming a bigger global financial centre, as is the municipal government.
Canada needs jobs with the unemployment rate at 8.1 per cent, and even higher in Toronto. It's just that finance jobs may not be the jobs this country needs more of. In fact, finance may be big enough already.
Canada's financial sector is getting bigger and bigger as a share of the country's economy, and is approaching the same share of the national gross domestic product as the U.S. financial sector had prior to the 2007 blowout. One of the big takeaways from that crash was to be careful about letting the industry become too powerful to properly regulate and too big to fail.
That's not the only risk. When banks gets too large relative to the other parts of the economy, bankers run out of regular, relatively safe business such as workaday lending and basic trading. They have to come up with other ways to justify their existence. That leads to bigger gambles in areas such as proprietary trading and the creation of products that have no link to the real economy, such as the synthetic collateralized debt obligations that were among the most toxic of the derivatives that blew up in the crisis.
Finance can also begin to crowd out other parts of the economy that have more bearing on real life for many people. Every smart person who's a banker or trader isn't doing something else like medical research or scientific study or teaching.
As Jim Leech, head of the Ontario Teachers' Pension Plan, said a year ago, the financial crisis and the subsequent drop in banker pay created "hope that our schools' best and brightest won't automatically head straight to Wall Street or Bay Street. They might consider other more worthwhile careers. God knows the world doesn't need another credit default swap."
It's looking like his hope was faint, as banker pay is back to being as lucrative as it ever was.
The best example of a focus on finance taken to absurdity is Iceland, which bet the farm (and the fishing boat) on becoming a banking centre all out of proportion to the size of the country. Now, the Icelandic economy is in shambles, the currency has collapsed and the future is grim. Dubai is another object lesson.
What's the right size for finance in Canada?
Banks, other lenders, and securities-market-related companies now account for about 5 per cent of Canada's economy, up from 4.1 per cent in 2001, according to Statistics Canada. That's almost a 25 per cent growth in market share.
Add in the steady-Eddie insurance business, which is expanding at a slower rate, and the numbers ratchet up to a 6.8 per cent share of the economy compared to 6 per cent in 2001.
The U.S. financial sector, including insurers, peaked at 8.3 per cent of GDP in 2006, according to calculations done by Thomas Philippon, a finance professor at New York University's Stern School of Business. At that point, bankers had so much power they could successfully stymie necessary attempts to regulate, both through sheer spending and thanks to the fact that the high pay in the industry attracted so many smart people that the banks won all the arguments.
Prof. Philippon has estimated since the crash that the U.S. financial sector, to support the economy with lending and other services such as initial public offerings, should be around "7 per cent of GDP if the U.S. remains an innovative, relatively finance-intensive economy."
In other words, if Canada wants to be a finance-intensive economy, well, it already is.
Pushing for even more concentration in banking poses a potential risk to the regulatory system that worked so well and brought so much positive recognition to Canada. It worked in large part because the industry is concentrated in a few big institutions.
Superintendent of Financial Institutions Julie Dickson can talk to the bankers that matter constantly, and she has a big influence. Add more players, with more heft and less time for Canada's collegial approach, and the risk is that the regulators' sway is diluted.
The lesson in the rest of the world's experience with finance as a huge part of the economy is policy makers should be careful what they wish for. And if policy makers in Ottawa and Toronto are going to keep dreaming of more bankers, they better get ready for what happens if their wish is granted.
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