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OTTAWA (Reuters) - The Bank of Canada on Wednesday raised its economic growth forecasts for the first three quarters of 2012 and repeated a warning about high household debt, pointing to the popularity of home equity lines of credit (HELOCs) as part of the problem.
Thanks to low borrowing costs, household spending and business investment will power Canada's moderate economic growth through the end of 2014, while exports remain weak and high oil prices fail to bring the usual benefits, the central bank said in its quarterly Monetary Policy Report.
"Private domestic demand, supported by accommodative financial conditions, is expected to account for almost all of Canada's economic growth over the projection horizon," the bank said.
Canadians will start to save a little more and growth in residential investment will slow over the next 2-1/2 years, the bank predicted. But it sees the ratio of household debt to income rising further from near-record highs as spending remains strong relative to gross domestic product.
The report comes a day after the bank held its key interest rate at 1 percent but surprised markets by saying some modest withdrawal of monetary stimulus "may become appropriate" due to firmer growth and inflation and a less daunting global backdrop.
Market players focused on the detailed quarterly forecasts, which suggest the bank sees excess slack in the economy disappearing in the first quarter of 2013, which in turn helps predict the start of monetary tightening.
Analysts now forecast, on average, a move by the bank in the first quarter of 2013 whereas last month they thought it would be in the third quarter, putting Canada well ahead of the U.S. Federal Reserve, the European Central Bank and others.
"We have pushed forward the timing of the first rate hike to the final quarter of 2012 in our forecast," said Dawn Desjardins, assistant chief economist at RBC Economics.
"We maintain our stance that the Bank will remove policy stimulus slowly in order to avoid applying too much downward pressure on domestic demand against an environment of sub-par global growth and given the limited support from net exports already embedded in the Bank's view," she wrote in a note.
The bank, which has repeatedly expressed concern about Canadians taking on too much debt at current low rates, said borrowing through HELOCs had mushroomed to C$64 billion ($64.6 billion) in 2010 from C$8 billion in 2001.
This type of debt has funded about 3 percent of aggregate consumer spending in Canada in recent years, up from less than 1 percent in 2001, and is not sustainable. Some banks are not careful enough when lending via HELOCs, he said.
"There are good aspects of it, but it contributes to a broader issue where some Canadian households are becoming overstretched and Canadian households as a whole are being overstretched which creates risk for the economy," he said.
The bank raised its economic growth forecasts for each of the first and second quarters to 2.5 percent, annualized, from 1.8 percent in January. It also revised upward its third-quarter growth projections but lowered the forecast for the fourth quarter and throughout 2013.
A stronger U.S. outlook and European action to resolve its debt crisis explains the stronger growth forecasts. There is a reduced chance of an "extreme negative event" in Europe, the bank said, but it still sees a big risk there.
Also helping growth is robust business investment.
High oil prices typically boost incomes in Canada - a net oil exporter - but are unfavorable now because prices for the crude Canada exports have fallen while those for imports are up.
Oil prices are less of an influence on the Canadian dollar than many people assume, Carney warned.
"And to trade or to invest in the currency along those lines, ultimately over the medium term, it's going to be a recipe for losing money."
The strong currency is one actor keeping exports weak - they won't reach their pre-recession peak until the end of 2013 - but the best way to boost exports is to penetrate new markets, Carney said.
"We're locked into slow-growing markets. More than 85 percent of our exports go to slow-growing economies ...," he said.
($1 = $0.99 Canadian)
Additional reporting by David Ljunggren in Ottawa and Claire Sibonney, Jon Cooke and Andrea Hopkins in Toronto; Editing by James Dalgleish