<aside> 💡 Central banks can implement monetary policy either by targeting the money supply or the interest rate. But for a given curve, they cannot target both variables independently.

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In Canada, the interest rate corresponding to the shortest period of borrowing or lending is called the overnight interest rate, which is the interest rate that commercial banks charge one another for overnight loans.

<aside> 💡 By influencing the overnight interest rate, the Bank of Canada also influences the longer-term interest rates that are more relevant for determining aggregate consumption and investment expenditure.

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How to Set an Interest Rate?

• Targets the overnight interest rate ⇒ Rate charged on loans between commercial banks
• Bank rate is 0.25 percentage points above the overnight rate
  • Borrow less and lend more
• Deposit rate is 0.25 percentage points below the overnight rate
  • Stimulate economic growth

Expansionary Policy

• Reducing interest rates
• Increases investment, increases consumption, and increases net export

Contractionary Policy

• Increasing interest rates
• Reduces investment, reduces consumption, and reduces net export