Chapter 14 introduce to the bank of Canada and monetary policy. In this chapter you will learn: The main functions of the bank of Canada, how the Bank of Canada can expand or contract the money supply, the components of money demand, how the equilibrium interest rate is determined in the money market, the mechanism by which the interest rate affects GDP.
Trang 1© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 1
The Bank of Canada
and Monetary Policy
SLIDES PREPARED BY JUDITH SKUCE, GEORGIAN COLLEGE
Trang 2In this chapter you will learn
The main functions of the Bank of Canada
How the Bank of Canada can expand or
contract the money supply
The components of money demand
How the equilibrium interest rate is
determined in the money market
The mechanism by which the interest rate
Trang 3© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 3
Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Monetary Policy & the International Economy
The “Big Picture”
Trang 4Goals of Monetary Policy
to help the economy to attain a
full-employment, noninflationary level of
total output…
by altering the economy’s money
supply and interest rates
how does this work?
Trang 5© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 5
Goals of Monetary Policy
Increase the money supply during a
recession to stimulate spending
Decrease the money supply during
inflation to constrain spending
Trang 6Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Trang 7© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 7
Functions of the Bank of
Canada
1 The “Bankers’ Bank”
2 Issuing Currency
3 Acting As Fiscal Agent
4 Supervising the Chartered Banks
5 Regulating the Supply of Money
Trang 8Bank of Canada Independence
controversial
voters hold Parliament responsible
Bank must be protected from
political pressures
Trang 9© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 9
Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Monetary Policy & the International Economy
The “Big Picture”
Trang 10Balance Sheet Of The Bank Of Canada
Trang 11© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 11
Gov’t of Canada deposits
Chartered bank deposits
Other deposits
Other liabilities
Balance Sheet Of The Bank Of Canada
Table 14-1
Trang 12Gov’t of Canada deposits
Chartered bank deposits
Other deposits
These deposits necessary for
These deposits necessary for
Balance Sheet Of The Bank Of Canada
Table 14-1
Trang 13© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 13
Gov’t of Canada deposits
Chartered bank deposits
Table 14-1
Trang 14Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Trang 15© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 15
Tools of Monetary Policy
Two main instruments:
Open-Market Operations
Government Deposit Shifting
Trang 16Open-Market Operations
Bank of Canada’s buying bonds from
& selling them to chartered banks &
the general public
Trang 17© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 17
Open-Market Operations
Bank of Canada BUYS bonds
From the chartered banks…
Trang 18Open Market Operations Example
Bank Of Canada BUYS $1,000 Of
Securities From the Chartered Banks
Bank of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
Trang 19© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 19
Open Market Operations Example
Bank of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
+ Securities - Securities
Bank Of Canada BUYS $1,000 Of
Securities From the Chartered Banks
Trang 20Open Market Operations Example
Bank of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
+ Securities + Chartered - Securities
bank deposits + Reserves
Bank Of Canada BUYS $1,000 Of
Securities From the Chartered Banks
Trang 21© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 21
Bank Of Canada BUYS $1,000 Of
Securities From the Chartered Banks
Open Market Operations Example
Bank Of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
+ Securities + Chartered - Securities
bank deposits + Reserves
Deposits of the chartered banks at the Bank of Canada
are part of each bank’s
Trang 22Open Market Operations Example
Bank of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
+ Securities + Chartered - Securities
bank deposits + Reserves
Bank Of Canada BUYS $1,000 Of
Securities From the Chartered Banks
Trang 23© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 23
$5,000 Chartered bank system lending
Total increase in money supply ($5,000)
Bank Of Canada Bond Purchase
Trang 24Open-Market Operations
Bank of Canada BUYS bonds
From the chartered banks…
From the public…
Trang 25© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 25
Open Market Operations Example
Bank of Canada BUYS $1,000 Of
Securities From the Public
Bank of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
Trang 26Open Market Operations Example
Bank of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
Bank of Canada BUYS $1,000 Of
Securities From the Public
Trang 27© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 27
Open Market Operations Example
Bank of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
+ Securities + Chartered
bank deposits
Bank of Canada BUYS $1,000 Of
Securities From the Public
Trang 28Open Market Operations Example
Bank Of Canada
Assets Liabilities
Chartered Banks Assets Liabilities
+ Securities + Chartered
bank deposits
+ Reserves +Deposits
Bank of Canada BUYS $1,000 Of
Securities From the Public
system
Trang 29© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 29
D=E X m
= $800 X 1/.20
=$800 X 5
Total increase in money supply ($5,000)
Bank Of Canada Bond Purchase
$1000 Initial deposit
Figure 14-1
$200 Desired reserves
New reserves
$800 Excess reserves
Trang 30Open-Market Operations
Bank of Canada BUYS bonds
Bank of Canada SELLS bonds
Trang 31© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 31
Switching deposits FROM FROM the
chartered banks to the Bank of
Canada reduces deposits & reserves
Switching deposits
Switching deposits TO TO the chartered
banks from the Bank of Canada
increases deposits & reserves
main method by which the Bank of Canada controls the money supply
main method by which the Bank of Canada controls the money supply
Trang 32The Bank Rate & the Overnight
Loans Rate
Bank rate is the interest rate the
Bank of Canada charges on the
loans to the chartered banks
Bank rate is set at half a percentage
point above the
point above the overnight loans rate overnight loans rate
Bank of Canada has a published
Trang 33© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 33
Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Monetary Policy & the International Economy
The “Big Picture”
Trang 34The Demand for Money
Trang 35© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 35
The Demand For Money
Trang 36Demand, D t
Asset Demand, D a
Amount of money demanded (billions
of dollars)
10 7.5
Trang 37© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 37
Transactions
Demand, D t
Asset Demand, D a
Total demand for money, D m
10 7.5
5
2.5
0
Amount of money demanded (billions
of dollars)
10 7.5
Trang 38Demand, D t
Asset Demand, D a
Total demand for money, D m
10 7.5
5
2.5
0
Amount of money demanded (billions
of dollars)
10 7.5
TO FIND THE EQUILIBRIUM RATE
Trang 39© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 39
Transactions
Demand, D t
Asset Demand, D a
Total demand for money, D m
10 7.5
5
2.5
0
Amount of money demanded (billions
of dollars)
10 7.5
5
2.5
0 D a
0 50 100 150 200 250 300 Amount of money
Trang 40Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Trang 41© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 41
The Money Market
A decline in the supply of money will
create a temporary shortage of
money & increase the equilibrium
interest rate
Trang 42The Money Market
to $150 billion S m1
0 50 100 150 200 250 300
Figure 14-3
Trang 43© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 43
Amount of money demanded
(billions of dollars)
0 50 100 150 200 250 300
10 7.5 5 2.5 0
Trang 440 50 100 150 200 250 300
10 7.5 5 2.5 0
Everyone sells bonds
bond prices fall interest rates rise illustrated…
Trang 45© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 45
Bonds
a $1,000 bond @ 5% pays $50 annually
if you buy this bond for $667, you still
Trang 46a $1,000 bond @ 5% pays $50 annually
if you buy this bond for $667, you still
Trang 47© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 47
Amount of money demanded
(billions of dollars)
0 50 100 150 200 250 300
10 7.5 5 2.5 0
Everyone sells bonds
bond prices fall interest rates rise until people are happy holding the lower quantity of money
Trang 4810 7.5 5 2.5 0
Dm
After adjustments to asset holdings, a new equilibrium will be seen at a higher level
Trang 49© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 49
Amount of money demanded
(billions of dollars)
10 7.5 5 2.5 0
Trang 5010 7.5 5 2.5 0
Trang 51© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 51
Amount of money demanded
(billions of dollars)
10 7.5 5 2.5 0
Everyone buys bonds
bond prices rise interest rates fall until people are happy holding the higher quantity of money
Trang 5210 7.5 5 2.5
0 50 100 150 200 250 300
After adjustments to asset holdings,
a new equilibrium will be seen
Trang 53© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 53
Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Monetary Policy & the International Economy
The “Big Picture”
Trang 54Monetary Policy, Real GDP,
& the Price Level
Cause-Effect Chain: The
Transmission Mechanism
Money supply impacts interest rates
Interest rates affect investment
Investment is a component of AD
Equilibrium GDP is changed
Trang 55If the money supply
increases to stimulate the economy
S m1
Real GDP
© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14
Trang 56D m
Investment Demand
Trang 57D m
Investment Demand
Interest rates fall as people work off excess money by buying bonds
Trang 58D m
Investment Demand
Trang 59D m
Investment Demand
Investment increase
increase in AD (multiplier effect)
Trang 60D m
Investment Demand
Trang 61D m
Investment Demand
Trang 62D m
Investment Demand
GDP doesn’t increase as much multiplier effect weaker because of
Trang 63Problem : Recessionary Gap
© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 63
Bank of Canada buys bonds, switches
deposits to chartered banks, or both
Money supply rises Reserves increase Interest rate falls Investment spending increases Aggregate demand increases
Real GDP rises by a multiple of the increase
in investment
Table 14-2
Table 14-2
Trang 64Problem : Inflationary Gap
Bank of Canada sells bonds, switches
deposits from chartered banks, or both
Money supply falls Reserves decrease Interest rate rises Investment spending decreases Aggregate demand decreases
Table 14-2
Table 14-2
Trang 65© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 65
Monetary Policy, Real GDP,
& the Price Level
as always, the impact
of a shift in AD
on real GDP and price level depends on supply conditions and the shape
of the AS curve
Trang 66Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Trang 67© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 67
Effectiveness of Monetary Policy
Strengths of Monetary Policy
Speed & Flexibility
Isolation from Political Pressure
Success During the 1980s & 1990s
Shortcomings & Problems
Less Control?
Changes in Velocity
Cyclical Asymmetry
Trang 68Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Trang 69© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 69
Current Focus: The Overnight
Loans Rate
Bank of Canada communicates
changes in monetary policy by
announcing changes in the bank rate
The bank rate is set at the upper limit
of the Bank of Canada’s operating
band for the overnight loans rate
Trang 70Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Trang 71© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 71
Monetary Policy & the International Economy
Net exports effects reinforce
monetary policy
Trang 72Problem : recession, slow growth
Expansionary monetary policy
(lower interest rate) Decreased foreign demand for dollars
Dollar depreciates Net exports increase Aggregate demand increases
Table 14-3
Trang 73Problem : inflation
© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 73
Contractionary monetary policy
(higher interest rate) Increased foreign demand for dollars
Dollar appreciates Net exports decrease Aggregate demand decreases Monetary policy is reinforced
Table 14-3
Trang 74Monetary Policy & the International Economy
Macro Stability & the Trade Balance
The easy money policy that is appropriate
for the alleviation of unemployment &
sluggish growth is compatible with the
goal of correcting a balance-of-trade
deficit
The tight money policy used to alleviate
Trang 75© 2002 McGraw-Hill Ryerson Ltd Macroeconomics, Chapter 14 75
Chapter 14 Topics
Goals of Monetary Policy
Functions of the Bank of Canada
Consolidated Balance Sheet of the Bank of
Canada
Tools of Monetary Policy
The Demand for Money
The Money Market
Monetary Policy, Real GDP, & the Price Level
Effectiveness of Monetary Policy
Current Focus: The Overnight Loans Rate
Monetary Policy & the International Economy
The “Big Picture”