CH 29 - Moentary Policy in Canada

CH 29 - Moentary Policy in Canada - CHAPTER 29 MONETARY...

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CHAPTER 29 MONETARY POLICY IN CANADA 29.1 HOW THE BANK OF CANADA IMPLEMENT MONETARY POLICY MONEY SUPPLY vs INTEREST RATE: Monetary policy can be conducted either by setting the money supply or by setting the interest rate o But for a given negatively sloped M D curve, both cannot be set independently o Monetary policy can be implemented either by influencing the money supply directly or by influencing the interest rate directly NOT both BOC cannot directly control the money supply, thought it can influence it by changing the amount of cash reserves in the banking system. In addition the slope + position of the M D curve cannot be accurately predicted. As a result the BOC chooses not to implement its monetary policy by attempting to control the money supply By directly setting the interest rate, the BOC can avoid the problems associated with imperfect control over the money supply + uncertainty about the slope + position of the M D curve o Because of its incomplete control over the money supply, as well as the uncertainty regarding both the slope and the position of the M D curve, the Bank chooses to implement its policy by setting the interest rate BOC + THE OVER NIGHT INTEREST RATE: Over Night Interest Rate = the interest rate that commercial banks charge each other for overnight loans Bank Rate = the interest rate the BOC charges commercial banks for loans The Bank’s policy instrument is its garget for overnight interest rate. By raising or lowering its target rate, the Bank affects the actual overnight interest rate. Changes in the overnight interest rate lead to changes in other long-term interest rates The Bank’s policy of instrument is the target it sets for the overnight interest rate o By offering to lend funds at a rate 25 basis points above this target (the bank rate) and to accept deposits on which it pays interest at 25 basis points below the target, the BOC can control the actual overnight interest rate Changes in the Bank’s target for the overnight rate lead to changes in the actual overnight rate and also to changes in longer-term market interest rates o The various steps in monetary transmission mechanism then come into play THE MONEY SUPPLY IS ENDOGENOUS: Open Market Operation = the purchase and sale of government securities on the open market by the central bank Through its open market operations, the BOC changes the amount of currency in circulation. But the Bank does not initiate these transactions; it conducts them to
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This note was uploaded on 04/18/2008 for the course ECON 295 taught by Professor Ragan during the Spring '08 term at McGill.

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CH 29 - Moentary Policy in Canada - CHAPTER 29 MONETARY...

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