Question

1(a)What financial benefit does the Government of Canada receive when the Bank of Canada buys its newly issued bonds rather than the Canadian private sector?
(b)What limits the Bank of Canada from buying all of the newly issued bonds issued by the Government of Canada? Explain in detail

Answer 1

When Bank of Canada buys the newly issued bonds of the government of Canada it enables the government to safeguard its ability to meet payment obligations when there is no normal access to funding markets or the access might be disturbed. This would support investor confidence in the debt of the government. At present the Bank of Canada purchases 20% of the bonds and creates money in the process by recording the value of securities as a new asset in their balance sheet and also recording the proceeds of securities as a deposit in the account of the government, that appears as a liability on the balance sheet of the bank. Also this can be considered as an internal transaction since the bank is owned by the government. There is no external limit on the money that the Bank of Canada can create for the federal government while the money created by the private corporation has a limit decided by the amount of bank’s equity relative to its assets.

If Bank of Canada buys all the newly issued bonds by the government this will prevent the private banks the opportunity to use the government bonds to create money in the economy. They also led to the general public and have more scope to create money in the economy. So in order to sustain the economy, the limit is important.