The Bank of Canada (in French: Banque du Canada) is Canada's private central bank. It opened in 1935 after the passing of the Bank of Canada Act, which, among other things, gave the bank a monopoly on the issuance of banknotes. Its stated purpose is to "promote the economic and financial well-being of Canada."
The bank's headquarters are located in the Bank of Canada Building at the corner of Wellington and Bank Streets in downtown Ottawa.
For many years, Canada did not have a central bank. Each of the nation's large banks issued its own currency and there was little government regulation of the nation's money supply. The federal finance department only issued small and very large denomination bank notes ($5 and under, and $500 and higher.) The Bank of Montreal, then the nation's largest bank, acted as the government's banker. Canada, with its extensive branch banking, had a very stable banking system. There was deemed to be little need for a lender of last resort and the banking system was not hit by the same seasonal liquidity problems as banks in the US. The banking system was regulated by the Canadian Bankers Association that worked in close concert with the government.
While there were some advocates for a central bank in the early part of the twentieth century, most notably bankers and the government, the status quo remained unaltered. This changed with the onset of Great Depression. Many in Canada blamed the policies of the Canadian banks for aggravating the Depression. The money supply was contracting and deflation was common, as the economy corrected from the high inflation in the 1920s. The government claimed it was constrained by its foreign debts, and it would be less costly to borrow money if it could be repaid in debased currency. A major proponent was the Royal Bank of Canada, which wanted to see the government business taken away from the rival Bank of Montreal. The government also claimed it was constrained by its inability to deal directly with its foreign debts. The farmers were joined by manufacturing interests and other groups in favor of a depreciating currency, all demanding a central bank.
Prime Minister R.B. Bennett called a Royal Commission in 1933 and it reported in favour of a central bank. Its members consisted of Britain's chief propagandist during World War I, Lord Macmillan, who supported central banking, as well as various British and Canadian bankers. Gerald Grattan McGeer was one of the most forceful voices in Canada advocating government intervention in the monetary system and nationalizing the credit system. His vision of monetary reform predated the establishment of the Bank of Canada. Also involved was John Edward Brownlee, then Premier of Alberta, petitioning in favor of a central bank because western farmers wanted cheap credit.
The bank began operations on March 11, 1935, after the passage of the Bank of Canada Act. Initially the bank was founded as a privately owned corporation in order to ensure it was free from political influence. In 1938, under Prime Minister William Lyon Mackenzie King, it became " a special type of " Crown corporation, fully owned by the government; thus, in effect, by the Canadian taxpayers; with the governor appointed by Cabinet. The responsibility for creating small bills was transferred from the finance department and the private banks were ordered to remove their currency from circulation by 1949. It is important to distinguish between the right to "issue money", which is the sole right of the Bank of Canada, and the ability to "create money", which, through legislation and regulation enacted by Parliament, is largely done by commercial banks through the taking of deposits and the issuance of loans. Presently, the Bank of Canada "issues" less than 5% of Canada's money; more than 95% of Canada's money is "created" by commercial banks, bearing interest, through the process of fractional-reserve banking.
The bank played an important role in financing Canada's war effort during World War II by printing money and buying the government's debt. After the war, the bank's role was expanded as it was mandated to encourage economic growth in Canada. The subsidiary Industrial Development Bank was formed to stimulate investment in Canadian businesses. The monetary policy of the bank was geared towards increasing the money supply to cause low interest rates, and have full employment with little concern about rising prices. When inflation began to rise in the early 1960s, the governor James Coyne ordered a reduction in the money supply. Prime Minister John Diefenbaker disagreed with this move, and ordered a return to the full-employment policies. Since the 1980s, keeping inflation low has been its main priority. The bank's Ottawa headquarters building is the site of the Currency Museum, which opened in December 1980.
The principal role of the Bank of Canada, as defined in the Bank of Canada Act, is "to promote the economic and financial welfare of Canada." The bank's current mission statement is:
The Bank of Canada's responsibilities focus on the goals of low and stable inflation, a safe and secure currency, financial stability, and the efficient management of government funds and public debt.
In practice, however, it has a more narrow and specific internal definition of that mandate: to keep the rate of inflation (as measured by the Consumer Price Index) between 1% and 3%. Since the Bank's creation, the average annual inflation rate was 3.13%. The most potent tool the Bank of Canada has to achieve this goal is its ability to set the interest rate for borrowed money. At one time the Bank of Canada could dictate the amount of reserves that Canadian chartered banks must keep but that power was removed in the early 1990s.
Since 1998, the Bank's policy has been to intervene in the foreign exchange market only under exceptional circumstances. In this sense, the Canadian dollar's value is determined by the market supply and demand for Canadian currency.
The Bank is not a government department as it performs its activities at arm's-length from the government; it is claimed to be a Crown corporation owned by the Government. Shares are directly held by the Ministry of Finance, and the bank's earnings go into the federal treasury. The Governor and Senior Deputy Governor are appointed by the Bank's Board of Directors. The Deputy Minister of Finance sits on the Board of Directors but does not have a vote. The Bank submits its spending to the Board of Directors, while federal departments submit their spending estimates to the Treasury Board. Its employees are regulated by the Bank and not the federal public service agencies. Its books are audited by external auditors who are appointed by Cabinet on the recommendation of the Minister of Finance, not by the Auditor General of Canada.
The head of the Bank of Canada is the Governor, who is appointed by the Bank's Board of Directors. The Governor is appointed for a seven-year term, and can be dismissed by the government. In case of a profound disagreement between the government and the Bank, the Minister of Finance can issue written instructions for the Bank to change its policies. This has never actually happened in the history of the Bank to date. In practice, the Governor sets monetary policy independently of the government.