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May 11, 1998

The use of forward rate agreements in Canada

In this article, the authors identify forward rate agreements, or FRAs, as short-term interest rate guarantee instruments negotiated by two parties, one of which is typically a bank. In outlining the main features of FRAs, the authors contrast them with BAX contracts (futures contracts on bankers' acceptances that are negotiated through the Montreal Exchange). The article then describes how market participants use FRAs to cover short-term interest rate risk. The final section deals with the way the Bank of Canada uses information from the FRA market as an indicator of interest rate expectations. Econometric models used to retrieve information from FRA rates, as well as the underlying assumptions, are discussed in an appendix.

The Structure of Interest Rates in Canada: Information Content about Medium-Term Inflation

Staff Working Paper 1997-10 Jim Day, Ron Lange
This paper examines the relationship between the term structure of interest rates and future changes in inflation for Canada using a newly constructed par-value yield series. The main conclusion of the empirical work is that the slope of the nominal term structure from 1- to 5-year maturities is a reasonably good predictor of future changes in inflation over these horizons.

Interpreting Money-Supply and Interest-Rate Shocks as Monetary-Policy Shocks

Staff Working Paper 1996-8 Marcel Kasumovich
In this paper two shocks are analysed using Canadian data: a money-supply shock ("M-shock") and an interest-rate shock ("R-shock"). Money-supply shocks are derived using long-run restrictions based on long-run propositions of monetary theory. Thus, an M-shock is represented by an orthogonalized innovation in the trend shared by money and prices.

Overnight Rate Innovations as a Measure of Monetary Policy Shocks in Vector Autoregressions

Staff Working Paper 1996-4 Walter Engert, Ben Fung, Jamie Armour
The authors examine the Bank of Canada's overnight rate as a measure of monetary policy in vector autoregression (VAR) models. Since the time series of the Bank's current measure of the overnight rate begins only in 1971, the authors splice it to day loan rate observations to obtain a sufficiently long period of data.

The Empirical Performance of Alternative Monetary and Liquidity Aggregates

Staff Working Paper 1995-12 Joseph Atta-Mensah
This paper examines the empirical performance of alternatives to the monetary aggregates currently published by the Bank of Canada. The results show that real M1 and real M1a perform about equally well in providing leading information about real output at short horizons. However, on theoretical grounds, M1a is a more attractive aggregate, since it excludes […]
December 9, 1994

The term structure of interest rates as a leading indicator of economic activity: A technical note

The spread between long-term and short-term interest rates has proven to be an excellent predictor of changes of economic activity in Canada. As a general rule, when long-term interest rates have been much above short-term rates, strong increases in output have followed within about a year; however, whenever the yield curve has been inverted for any extended period of time, a recession has followed. Similar findings exist for other countries, including the United States. But although Canadian and U.S. interest rates generally move quite closely together, the Canadian yield curve has been distinctly better at predicting future Canadian output. The explanation given for this result is that the term spread has reflected both current monetary conditions, which affect short-term interest rates, and expected real returns on investment and expectations of inflation, which are the main determinants of long-term rates. This article is mainly a summary of econometric work done at the Bank. It also touches on some of the extensive recent literature in this area.
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