Suppose the Bank of Canada sets its target for the overnight rate at 5 percent, with an operating band of 4.75 to 5.25 percent.

a)Bank A finds it has $150 million more on deposit at the central bank than it needs to meet its overnight clearing balance requirement. What is the rate of interest it will earn by holding this central bank deposit overnight? What is the maximum rate it could earn by lending overnight to another bank?

b)Bank B finds it has $125 million less than it needs to meet its overnight clearing balance requirement. Where can it borrow the funds it needs? What is the minimum rate it would have to pay to borrow overnight funds from another bank? What rate would it have to pay if no other bank is willing to lend?

c)Explain why an overnight loan contract between Banks A and B would have an interest rate that falls within the central bank's operating band.