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This paper analyzes the optimal quantity of central bank reserves in an economy where reserves and other financial assets provide liquidity benefits. Using a static model, I derive a constrained Friedman rule that characterizes the socially optimal level of reserves, demonstrating that this quantity is neither necessarily large nor small but depends on the marginal benefits of reserves relative to alternative safe assets.

Over the last 30 years, the business mix of banks in Canada has changed significantly. Progress in information-processing technology, legislative changes, and market forces have combined to blur the traditional distinctions between banks and other financial institutions and have allowed banks to offer a much wider range of products and services. In this article, the author reviews the expansion of bank lending to households over this period and their recent movement into personal wealth management. While these trends were facilitated by revisions to legislation, they also reflected the changing needs of the "baby boom" generation, first as home-buyers and, more recently, as middle-aged investors. On the commercial and corporate side, banks reacted to the rapid expansion of securities markets (and to the reduced demand for intermediation by both lenders/depositors and borrowers) by moving into investment banking, after legislative changes opened this business to them in the late 1980s. They also used their expertise in credit assessment and risk management to provide credit guarantees and to act as counterparties and intermediaries in derivatives markets. Notable in this broadening of bank activities has been their more recent entry into the trust, mutual fund, and retail brokerage business. The banks have also made preliminary forays into insurance. The expansion of off-balance-sheet activities has made fee income an increasingly important part of bank earnings. The article also looks at the emerging tools and techniques that will most likely transform the structure of banking in the future.

It has become a tradition that I deliver a speech late in the year on issues related to the financial system. When I say "financial system," I mean financial institutions and markets, together with the clearing and settlement systems through which financial assets flow.

Recent years have seen renewed interest in the regulation of interbank markets. A review of the literature in this area identifies two gaps: first, the literature has tended to make ad hoc assumptions about the interbank contract space, which makes it difficult to generate convincing policy prescriptions; second, the literature has tended to focus on ex-post interventions that kick in only after an interbank disruption has come underway (e.g., open-market operations, lender-of-last-resort interventions, bail-outs), rather than ex-ante prudential policies.

This monthly newsletter features the latest research publications by Bank of Canada economists including external publications and working papers published on the Bank of Canada’s website.

Although there has been some improvement in conditions over the past several weeks, strains in global credit markets have broadened since December.

FSR Highlights - June 2008

Errata: Some factual errors in the June report "Bank of Canada Oversight Activities during 2007 under the Payment Clearing and Settlement Act" have been corrected. They concern (i) clarification of the U.S. Federal Reserve as lead overseer of CLS Bank and (ii) the steps taken by CDS on 14 August 2007 to assist issuers and participants holding defaulted ABCP.

Take an in-depth look at the indicators related to financial stability.

This monthly newsletter features the latest research publications by Bank of Canada economists including external publications and working papers published on the Bank of Canada’s website.

Dealers connect investors who want to buy or sell securities in financial markets. Over time, dealers and investors form trading networks to save time and resources. An emerging field of research investigates how networks form.