Financialization and the transformation of commercial banking: understanding the recent Canadian experience before and during the international financial crisis

Abstract

As creators of credit money, commercial banks prevent the nonfinancial private sector from being constrained by its prior savings in accordance with the theory of the monetary circuit. Commercial banking provides the means for a private economy to break away from its financial constraint. Commercial banks are a blend of private/public institutions at the foundation of an economy's payment system, with the accompanying critical externalities. As the economy has moved historically from the prefinancialization era toward a hyperfinancialized economy, there has been a shift away from its traditional role of financing production. The activity of commercial banking has evolved, especially as a result of securitization. Commercial banks are now found at the center of one large profit-making transactions machine that largely denies their original role in the productive sphere. It is their new activities, together with all the associated perverse incentives that this transformation has created, that brought about the financial crisis. The article analyzes this evolution by studying more carefully the Canadian experience prior to and following the financial crisis.