Not a Single Canadian Bank Failed During the Great Depression

The McFadden Act of 1927 specifically prohibited interstate branch banking in the U.S., and only allowed banks to open branches within the single state in which it was chartered. Therefore, U.S. banks were forced to be small and local, with an undiversified loan portfolio tied to the local economy of a single state, or a specific region of a single state. The strict regulatory framework of the McFadden Act created a delicate and fragile banking system that could not easily withstand the shock of the Great Depression. Exhibit A: 9,000 banks failed in the U.S. in the early 1930s (see chart above).

Could it have been different? Could a different regulatory framework have enabled the U.S. banking system to withstand the Great Depression, thereby lessening its impact on the overall economy? Yes. Consider the following:

San Francisco Federal Reserve:

During the Great Depression years—1930 through 1933—5.6% (1,352 banks), 10.5% (2,294 banks), 7.8% (1,500), and 12.9% (4,000) of U.S. banks failed in each year; by the end of that four-year stretch, almost half of U.S. banks had either closed or merged. In all, 9,000 banks failed during the 19300s (see chart above).

Bernanke (American Economic Review, 1983) argues that this banking crisis worsened the magnitude of the downturn because credit supply fell as banks failed. Thus, many firms were unable to finance potential investments. Most of the failed banks were small and operated out of just a single office. In Canada, where not a single bank failed, branching was the rule; in fact, Canada had only ten large banks during the 1930s (see chart above). The Canadian economy fared much better than did the United States economy, in large part because of its better diversified and integrated banking system.

Bottom Line: Strict banking regulations are not always the answer to creating a sound and stable banking system. Exhibit A: The McFadden Act and The Great Depression, and the fact that 0 banks failed in Canada (due a more sensible regulatory system) vs. 9,000 bank failures in the U.S. largely due to the repressive regulatory framework of the McFadden Act.

Comments

[pochovilla:]

From the wikipedia link: en.wikipedia.org/wiki/...

"Canada was hit hard by the Great Depression. Between 1929 and 1933, the gross national product dropped 40% (compared to 37% in the US). Unemployment reached 27% at the depth of the Depression in 1933. Many businesses closed, as corporate profits of $396 million in 1929 turned into losses of $98 million in 1933. Families saw most or all of their assets disappear, and their debts become heavier as prices fell. Canadian exports shrank by 50% from 1929 to 1933. Worst hit were areas dependent on primary industries such as farming, mining and logging, as prices fell and there were few alternative jobs."

An inquiring mind would ask? Is it possible to stop a rolling snowball by standing in front of it at the bottom of the hill?

2008 Sep 23 08:05 AM

[Nick Gogerty:]

Fractional banking works on a leverage and connectedness continuum. On one end is lower efficiency, on the other is sytemic risk increasing. Take your pick.

2008 Sep 23 10:03 AM

[DrGREEN:]

diagree!
Banks allowed to cross the state line since 1985 or so.
see what happened?
it is the moral hazarded , greed, ,,,and,,,.

2008 Sep 23 01:59 PM