Volatility Risk and Economic Welfare
This paper examines the effects of time-varying volatility on welfare. I construct a tractable endogenous growth model with recursive preferences, stochastic volatility, and capital
adjustment costs.
Financial markets
Financial markets are where savers and borrowers exchange funds. Their well-functioning is critical. This is why we study their structure, participants, regulations and how they are affected by key external changes.
Financial markets consist of markets for money, bonds, equities, derivatives and foreign currencies. It is mainly through these markets that the Bank of Canada’s key policy rate influences interest rates and exchange rates for the Canadian dollar. This, in turn, helps us achieve our monetary policy objectives. As the fiscal agent for the Government of Canada, we are also involved in financial markets through auctions of government securities.
Our research increases our understanding of the structure and functioning of Canadian financial markets and helps us identify ways to support their development and stability.
Examples of areas we are exploring:
- the ability of and risks to markets absorbing higher levels of government debt
- what motivates international investors, such as US hedge funds, to participate in the Government of Canada bond market
- the risks to financial stability from new non-bank players entering the business of intermediating markets
- important things to consider when designing central bank programs that supply liquidity to market participants
- the impacts on market structure from things like artificial intelligence and tokenized assets
Government debt market
In recent years, governments around the world, including in Canada and the United States, have issued more debt to support their economies. This large supply of government securities may lead to funding challenges and could distort asset markets. Our research aims to understand the capacity of markets to absorb this debt and its effect on market functioning, financial stability and the transmission of monetary policy.
Market structure and regulation
Another key part of our research is understanding how financial markets adapt to the evolving financial environment and how regulation safeguards stability and market functioning. In many countries, including Canada, fixed-income markets are still primarily over the counter and rely heavily on bank-owned dealers. This reliance can create challenges for dealers managing their balance sheets and, in times of stress, may limit funding to the broader economy. At the same time hedge funds and high-frequency, or principal, trading firms are among the new players acting as intermediaries as these markets digitalize. This change brings both benefits and new risks, which we strive to better understand.
Related research
Assessing the Predictive Ability of Sovereign Default Risk on Exchange Rate Returns
Staff working paper 2017-19
Claudia Foroni,
Francesco Ravazzolo,
Barbara Sadaba
Increased sovereign credit risk is often associated with sharp currency movements. Therefore, expectations of the probability of a sovereign default event can convey important information regarding future movements of exchange rates.
Content Type(s):
Staff research,
Staff working papers
JEL Code(s):
C,
C2,
C22,
C5,
C52,
C53,
F,
F3,
F31
Research Theme(s):
Financial markets and funds management,
International markets and currencies,
Models and tools,
Econometric, statistical and computational methods
Methodology for Assigning Credit Ratings to Sovereigns
Staff discussion paper 2017-7
Philippe Muller,
Jérôme Bourque
The investment of foreign exchange reserves or other asset portfolios requires an assessment of the credit quality of investment counterparties. Traditionally, foreign exchange reserve and asset managers have relied on credit rating agencies (CRAs) as the main source for credit assessments.
Content Type(s):
Staff research,
Staff discussion papers
JEL Code(s):
F,
F3,
F31,
G,
G2,
G24,
G28,
G3,
G32
Research Theme(s):
Financial markets and funds management,
Funds management,
Financial system,
Financial institutions and intermediation,
Financial stability and systemic risk,
Models and tools,
Economic models
Multilateral Development Bank Credit Rating Methodology: Overcoming the Challenges in Assessing Relative Credit Risk in Highly Rated Institutions Based on Public Data
Staff discussion paper 2017-6
David Xiao Chen,
Philippe Muller,
Hawa Wagué
The investment of foreign exchange reserves or other asset portfolios requires an assessment of the credit quality of counterparties. Traditionally, foreign exchange reserve managers and other investors have relied on credit rating agencies (CRAs) as the main source for credit assessments.
Content Type(s):
Staff research,
Staff discussion papers
JEL Code(s):
F,
F3,
F31,
G,
G2,
G24,
G28,
G3,
G32
Research Theme(s):
Financial markets and funds management,
Funds management,
Financial system,
Financial stability and systemic risk
Constrained Efficiency with Adverse Selection and Directed Search
Staff working paper 2017-15
Mohammad Davoodalhosseini
Constrained efficient allocation (CE) is characterized in a model of adverse selection and directed search (Guerrieri, Shimer, and Wright (2010)). CE is defined to be the allocation that maximizes welfare, the ex-ante utility of all agents, subject to the frictions of the environment.
Content Type(s):
Staff research,
Staff working papers
JEL Code(s):
D,
D8,
D82,
D83,
E,
E2,
E24,
G,
G1,
J,
J3,
J31,
J6,
J64
Research Theme(s):
Financial markets and funds management,
Market structure,
Financial system,
Financial system regulation and oversight,
Models and tools,
Economic models,
Monetary policy,
Monetary policy framework and transmission
Disclaimer
Bank of Canada staff produce research and analysis to support the work of the Bank and to advance knowledge in the fields of economics and finance. The research is non-partisan and evidence based. All research is produced independently from the Bank’s Governing Council. The views expressed in each paper or article are solely those of the authors and may differ from official Bank of Canada views.