The economics of money, banking, and financial institutions 2nd ch14

Chapter 14
Structure of Central 
Banks and the Bank of 
Canada

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The Bank of Canada
(The Bank)
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•

•

The Bank was created by the Bank of Canada Act in 1934
and started operations on March 11, 1935
Initially the Bank was a private institution but was
nationalized in 1938, so is now a national institution with
headquarters in Ottawa
The Bank also has regional offices in Toronto, Vancouver,
Calgary, Montreal, and Halifax

Unlike a private bank that operates in pursuit of profit, the
Bank of Canada is responsible for the country’s monetary
policy and for the regulation of Canada’s deposit-based
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financial
institutions.

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Establishment of Selected Central
Banks
Country
Year central bank was established
Sweden
1656
United Kingdom
1694
France
1800
Belgium
1850
Germany
1875
Japan
1882
Italy
1893
Switzerland
1905
United States
1913
Canada
1935
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The Political Environment and the
Bank of Canada
 Since the inception of the Bank of Canada there have been
seven governors:
1935-1954, Graham Towers 
1955-1961, James Coyne 
1961-1973, Louis Rasminski 
1973-1987, Gerald Bouey 
1987-1994, John Crow 
1994-2000, Gordon Thiessen 
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Formal Structure of the Bank of
Canada
Responsibility for the operation of the Bank rests with a
Board of Directors, which consists of fifteen members
• the governor (currently David Dodge, who is the chief
executive officer and chairman of the Board of Directors)
• the senior deputy governor,

• the deputy minister of finance, and
• twelve outside directors
The Board appoints the governor and senior deputy governor
with the government’s approval, for a renewable term of 7
years.
The outside directors are appointed by the minister of
finance,
with Education
cabinet approval, for a 3-year term.
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The Functions of the Bank
 The functions of the Bank of Canada are
•
•
•
•

bank note issue
government debt and asset management services
central banking services, and
monetary policy management.

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Bank Note Issue
Before the creation of the Bank, the federal government and
the early banks issued notes designed to circulate as
currency.
By 1945, however, the bank had a monopoly over note issue
in the country.
The Bank also conducts ongoing research, working closely
with private sector partnerships and note-issuing
authorities in other countries, in order to improve costeffectiveness, increase the durability of bank notes, and
reduce counterfeiting.
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Government Debt and Asset
Management Services
 As the federal government’s fiscal agent, the Bank
• provides debt-management services for the federal
government such as advising on borrowings, managing
new debt offerings, and servicing outstanding debt
• manages the government’s foreign exchange reserves held
by the Exchange Fund Account of the Department of
Finance
• engages in international financial transactions, on behalf of
the government, in order to influence exchange rates
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Central Banking Services
 As Canada’s central bank, the Bank of Canada
• serves as the lender of last resort if a bank faces a
liquidity crisis, thereby preventing bank runs and panics.
This lending is closely coordinated with the two federal
regulatory agencies that are set up specifically to regulate
financial institutions --- OSFI and CDIC
• has explicit responsibility for the regulatory oversight of
the national payments system, operated by the CPA
• acts as the holder of deposit accounts of the federal
government, the directly clearing members of the CPA,
international organizations such as the IMF, and other
central
banks.Education
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Monetary Policy
 Although in Canada the ultimate responsibility for monetary
policy rests with the government, the Bank employs such
tools as
• open market operations and, to a lesser extent, the

• shifting of government balances between it and the
directly clearing members of the CPA to implement
changes in the M. The Bank’s ultimate objective is to keep
 low.
Low  is closely related to the goal of steady economic
growth, because businesses are more likely to invest to
increase productivity and economic growth when  is low.
Low  is also desirable because it protects the purchasing
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power
of pensioners
and those on fixed incomes.
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Bank of Canada Independence
Factors making Bank of Canada independent
1. Bank has ‘operational’ (or ‘instrument’) independence
2. Bank has moved towards greater ‘transparency’ in its
operations. The Bank’s Governing Council publishes the
Monetary Policy Report (every May and November), since
1999 the Update to the Monetary Policy Report (every
January and July), the Bank of Canada Review, and the
Bank of Canada Banking and Financial Statistics.
3. Bank increased the number of press conferences, press
releases, and speeches, and also reorganized its regional
offices, with the objective of improving communication

and its assessment of economic conditions across Canada.
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Bank of Canada Independence
Factors making Bank of Canada dependent
1. Joint responsibility system (since 1967 when the Bank of
Canada Act was amended)
2. Minister of Finance can issue a directive to the Bank
indicating the specific policy changes that the Bank must
follow. The directive, however, must be published
indicating not only the new policy that the Bank is
supposed to undertake but also the period during which it is
to apply.
Overall: Bank of Canada is quite independent but not on
paper
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Formal
Structure
of the
Fed

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Federal Reserve Districts

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Informal
Structure
of the Fed

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Fed Independence
Factors making Fed independent
1. Members of Board have long terms
2. Fed is financially independent: This is most important
Factors making Fed dependent
1. Congress can amend Fed legislation

2. President appoints Chairmen and Board members and can influence legislation
Overall: Fed is quite independent
Other Central Banks
1. Bank of England least independent: Govt. makes policy decisions
2. European Central Bank: most independent—price stability primary goal
3. Bank of Canada and Japan: fair degree of independence, but not all on paper
4. Trend to greater independence: New Zealand, European nations

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Explaining Central Bank Behavior
Theory of bureaucratic behavior
1. Is an example of principal­agent problem
2. Bureaucracy often acts in own interest
Implications for Central Banks:
1. Act to preserve independence
2. Try to avoid controversy: often plays games
3. Seek additional power over banks
Should the Bank of Canada be Independent?
Case For:
1. Independent Bank likely has longer­run objectives, politicians don't: evidence is 
independence produces better policy outcomes throughout the whole
2. Avoids political business cycle
3. Less likely deficits will be inflationary
Case Against:
1. Bank may not be accountable

2. Hinders coordination of monetary and fiscal policy
3. Bank has often performed badly

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