Money Supply in Canada

Economics 120

What is money?

• Medium of exchange– What sellers generally accept and buyers use to pay

for goods and services.

• Store of value– An asset that can be used to transport purchasing

power form one time period to another.

• Unit of Account– A standard unit that provides a consistent way of

quoting prices.

• The Bank of Canada is concerned with the amount of money in Canada at any given time.

• Definition of money supply: reflects total purchasing power available in the country at any given time– Coins & paper currency in circulation (money)– Chartered bank deposits

• Demand deposits• Savings (notice) deposits

Several Definitions

• M1(Narrow Money): Currency plus demand deposits

• M2 (Broad Money): M1 plus notice deposits

• M3: M2 plus non-personal term deposits and foreign currency deposits of residents booked in Canada

Controlling the Money Supply

• The Bank of Canada has three policy instruments to control the money supply.– Open market operations– Transfers of government deposits– Bank rate

Open Market Operations

• Open market operations consist of the purchase and sale by the Bank of Canada of government securities on the open market.

• The Bank of Canada’s own funds are not part of the money supply so it can increase the money supply by purchasing government securities or decrease the money supply by selling government securities.

Transfers of Gov’t Deposits

• The BoC can make transfers of government deposits to private banks, giving the banks excess reserves and increasing the money supply through new loans.

• Similarly the BoC can transfer funds away from private banks to decrease the money supply.

Bank Rate

• The bank rate is the interest rate that private banks pay to borrow from the Bank of Canada.

• Although there is little borrowing by banks from the Bank of Canada the bank rate is a signal of monetary policy.

• A higher bank rate indicates a higher cost to financing a short-fall, so banks increase their reserve ratios thus tightening the money supply.