The Bank of Canada has intervened in the overnight market for four days in a row now: $985m on Thursday, $1.087b on Friday, $890m Monday, and another $855m yesterday. Update: Make it five in a row – another $520m today.

What’s going on?

The Globe and Mail’s Heather Scoffield had an article on this the other day, when the streak was at three days:

Third BOC injection in three days reveals ‘clog in the system’: Something is definitely amiss in Canada’s money markets.

The Bank of Canada, for the third business day in a row, injected
about $1-billion into the overnight market to defend its key interest
rate.

A bank spokesman said the liquidity provision was simply a technical move, a normal quarter-end demand for more cash…

"The end of September is quarter-end for a number of foreign financial
institutions, and technical upward pressure on the overnight rate is
not uncommon at both month-end and quarter-end," explained bank
spokesman Jeremy Harrison.

Here’s a graph of the difference between the overnight rate and the Bank’s target over the past couple of months:

Before the subprime crisis hit, the gap between the overnight rate target and the target was generally quite narrow: during the period January 2 to July 31, there were only five days where the gap was greater than 4 basis points. Since then, the Bank seems to have been content to let the overnight rate drift to 10 bps below the target. (Meanwhile, the Federal Reserve let the federal funds rate fall 25 bps below target before they eventually reduced the target by 50 points.)

But something happened last Thursday: the overnight rate jumped 8 basis points, and would have gone higher if the Bank hadn’t kicked in that $985m. Since then, the Bank has had to work hard to keep it near the target. In an e-mail, Heather Scoffield says "The bank tells me the overnight rate floated up continually above 4.50, by about six to 10 points each day, until intervention pulled the rate back down to target."

The end-of-quarter cash-flow story is a plausible one, but it’s hard to see why that would require intervening two days into October. My guess is that the Bank is doing its best to play down any possible expectations of an interest cut on October 16. If the Bank were to acknowledge that financial markets were in a deeper mess than it had previously thought, then people would start working under the assumption of a rate cut. But it should be remembered that before the subprime crisis hit, the Bank was in the middle of a cycle of interest rate hikes. If things settle down fairly soon, then it would be obliged to reverse a rate cut pretty quickly. The Bank doesn’t want to be an additional source of volatility for financial markets, so if it does cut interest rates, it will be because things are looking very bad indeed.