THE ECONOMICS OF MONEY,BANKING, AND FINANCIAL MARKETS 416

384

PA R T V

Central Banking and the Conduct of Monetary Policy
This is a vague mandate, leaving a lot of room for interpretation. To explore
this subject, we discuss four functions of the Bank of Canada as they are mentioned in the Bank s webpage:
bank note issue
government debt and asset management services
central banking services, and
monetary policy management.

Bank Note
Issue

Before the creation of the Bank of Canada, the federal government and the early
banks issued notes designed to circulate as currency. The day it began operations,
the Bank replaced the outstanding issue of federal government notes and provision was also made for the gradual removal of notes issued by banks. By 1945 the
Bank had a monopoly over note issue. Although the original Bank Act required
the Bank to redeem its notes in gold, this provision was never used. In fact, it was
removed with the 1967 revision of the Bank Act, thereby providing the Bank with
unlimited powers to issue legal tender.
The Bank also conducts ongoing research, working closely with private-sector
partnerships and note-issuing authorities in other countries, in order to improve
cost-effectiveness, increase the durability of bank notes, and reduce counterfeiting. In its role as provider of paper money, the Bank s overall objective is to preserve the integrity and safety of Canadian currency in the most economical and
efficient manner possible.

Government
Debt and
Asset
Management

Services

In its role as the federal government s fiscal agent, the Bank of Canada provides
debt-management services for the federal government such as advising on borrowings, managing new debt offerings, and servicing outstanding debt. Before
1995 these services were provided for all of the federal government s debt. In
1995, however, a special agency of the Department of Finance was created, known
as Canada Investment and Savings, to be responsible for the federal government s
debt held by individuals, commonly known as retail debt.
Canada Investment and Savings handles government of Canada securities such as
Canada Savings Bonds, treasury bills, and marketable bonds, and is also responsible
for the development of new investment products and marketing initiatives. The Bank
of Canada, however, continues to be responsible for all of the government s securities after they are issued, administering millions of bondholder accounts and making
payments on behalf of the federal government for interest and debt redemption.
In its role as fiscal agent, the Bank of Canada also manages the government s foreign exchange reserves held by the Exchange Fund Account of the Department
of Finance. In particular, the Bank assists the Department of Finance in investing
these foreign reserves and in borrowing when necessary to maintain an adequate
level of reserves. The Bank also engages in international financial transactions, on
behalf of the government, in order to influence exchange rates. (We discuss the
Bank s foreign exchange interventions more formally in Chapter 20.)

Central
Banking
Services

The Bank of Canada serves as the lender of last resort if a deposit-taking financial institution faces a liquidity crisis. Because of its unique power to create base
money, the Bank can ease the liquidity problems of any financial institution by
extending advances, and therefore deter bank runs and panics. Base money