Which method involves the Bank of Canada influencing interest rates by trading securities with money market participants?

• A. Reserve requirements
• B. Discount window lending
• C. Open market operations
• D. Quantitative easing

Answer: (C)

Open market operations involve the Bank of Canada influencing interest rates by trading government securities with money market participants. By buying securities, the Bank adds reserves to the banking system, increasing liquidity and generally pushing the short-term overnight rate toward the target. By selling securities, it drains reserves, reduces liquidity, and nudges the rate upward toward the target. This daily buying and selling of securities is the primary mechanism the Bank uses to implement monetary policy and steer interest rates in the money market.

Reserve requirements are not the tool the Bank uses to set the rate in practice in Canada. Discount window lending provides liquidity to banks when needed, but it doesn’t set the market rate. Quantitative easing refers to large-scale asset purchases used in unconventional crisis-era policies rather than the routine operation that sets the short-term rate.