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

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Monetary policy, interest rates and the Canadian dollar

Staff analytical note 2025-2 Jean-Sébastien Fontaine, Ingomar Krohn, James Kyeong, Rishi Vala, Konrad Zmitrowicz
Changes in domestic interest rates affect the value of the Canadian dollar less than changes in the risk premium do. These variations often occur when a broad shift in risk sentiment occurs in global markets. Ultimately, the value of the currency reflects long-term, slow-moving features of the economies.
Content Type(s): Staff research, Staff analytical notes JEL Code(s): E, E4, E43, F, F3, F31, G, G1, G12 Research Theme(s): Financial markets and funds management, International markets and currencies, Monetary policy, Monetary policy framework and transmission

Non-Bank Dealing and Liquidity Bifurcation in Fixed-Income Markets

Staff working paper 2025-2 Michael Brolley, David Cimon
We model non-bank entry into fixed-income markets and state-dependent liquidity. Non-bank financial institutions improve liquidity more during normal times than in stress. Banks may become less reliable to marginal clients, exacerbating the difference in liquidity between normal and stressed times. Central bank lending during stress may limit this harmful division.
Content Type(s): Staff research, Staff working papers JEL Code(s): G, G1, G10, G2, G20, G21, G23, L, L1, L10, L13, L14 Research Theme(s): Financial markets and funds management, Market functioning, Market structure, Financial system, Financial institutions and intermediation

Consumer Search, Productivity Heterogeneity, Prices, Markups, and Pass-through: Theory and Estimation

Staff working paper 2024-50 Alex Chernoff, Allen Head, Beverly Lapham
We develop and estimate a search model in which identical consumers trade with price-setting firms that differ in productivity. We use the estimated model to characterize the qualitative and quantitative differences in prices and markups across firms. We explore how individual firms respond to changes in cost and demand and how they pass these through to their prices and markup.
Content Type(s): Staff research, Staff working papers JEL Code(s): E, E3, E31, L, L1, L16 Research Theme(s): Financial markets and funds management, Market functioning, Models and tools, Economic models, Monetary policy, Inflation dynamics and pressures

How foreign central banks can affect liquidity in the Government of Canada bond market

Staff analytical note 2024-26 Patrick Aldridge, Jabir Sandhu, Sofia Tchamova
We find that foreign central banks own a large share of Government of Canada (GoC) bonds and tend to hold their positions for longer than other types of asset managers. This buy-and-hold behaviour could offer benefits. For example, foreign central banks may be less likely than other asset managers to sell bonds and add to strains on market liquidity in periods of turmoil. However, foreign central banks’ buy-and-hold behaviour combined with their minimal lending of GoC bonds in securities-financing markets, as observed in our available data, can potentially lower liquidity because fewer GoC bonds are available for others to transact in secondary markets. Indeed, we find that higher levels of foreign central banks’ GoC bond holdings are related to lower liquidity.
Content Type(s): Staff research, Staff analytical notes JEL Code(s): E, E5, E58, F, F3, F30, F31, G, G0, G01, G1, G11, G12, G15, G2, G23 Research Theme(s): Financial markets and funds management, Funds management, Market functioning, Financial system, Financial stability and systemic risk

The (Mis)Allocation of Corporate News

Staff working paper 2024-47 Xing Guo, Alistair Macaulay, Wenting Song
We study how the distribution of information supply by the news media affects the macroeconomy. We find that media coverage focuses particularly on the largest firms, and that firms’ equity financing and investment increase after media coverage. But these equity and investment responses are largest among small, rarely covered firms. Our quantitative studies highlight that the aggregate effects of media coverage depend crucially on how that coverage is allocated.
Content Type(s): Staff research, Staff working papers JEL Code(s): D, D2, D22, D6, D61, L, L1, L11, L2, L20 Research Theme(s): Financial markets and funds management, Market functioning, Financial system, Financial institutions and intermediation, Models and tools, Econometric, statistical and computational methods, Economic models
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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.

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