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Bank of Canada may diverge from dovish peers as economy rebounds

OTTAWA/TORONTO, July 10 (Reuters) - The Bank of Canada on Wednesday looks set to raise its second-quarter economic growth forecast and stand pat on interest rates, taking a different tack from some major peers, which are signaling plans for additional stimulus.

The central bank will release its quarterly Monetary Policy Report at 10 a.m. Eastern (1400 GMT), in which it is widely expected to hold interest rates steady at 1.75%. But analysts expect the central bank to raise its projection for second-quarter annualized growth to between 2.25% and 3%, from 1.3% forecast in April.

The expected boost to the growth projection comes after a sharp drop in global bond yields helped reduce borrowing costs for Canada’s heavily indebted household sector.

“The Bank of Canada set a pretty low bar in terms of its second-quarter growth numbers,” said Royce Mendes, a senior economist at CIBC Capital Markets.

The central bank has long forecast that the economy would recover from a recent slowdown triggered by low oil prices and the dampening effect of interest rate rises. What remains unclear is how sustainable the expected second-quarter gains are.

By comparison, the U.S. Federal Reserve, the Reserve Bank of Australia and the European Central Bank have taken a more dovish approach to monetary policy. The Fed has signaled a rate cut could come as soon as the end of July due to growing risks to U.S. economic growth.

The Canadian dollar has been the top-performing G10 currency this year as traders bet that Canada’s central bank would diverge from expected easing by the Federal Reserve.

“The Bank of Canada will have to decide whether it believes that there’s further for this momentum to go,” said Mendes, noting that the oil-producing province of Alberta has partially lifted production cutbacks.

The bank has held its overnight rate at 1.75% since last October.

“It’s not just growth divergence, it’s an inflation divergence,” said Greg Anderson, of BMO Capital Markets. “Canada is at target and nobody else is.”

While Canadian inflation has reached the Bank of Canada’s 2% target, the economy has seen other gains, too.

First-quarter consumption levels were higher than expected, RBC Capital Markets strategist Mark Chandler said, adding that business hiring and capital-spending intentions had “held up pretty well.”

But global trade tensions could prompt the bank to cut its forecast for the world economy, Mendes said, noting the United States had slapped more tariffs on Chinese goods since the bank’s April forecasts.

Other potentially negative factors weighing on the bank’s projections include the stronger Canadian dollar’s undercutting competitiveness.

“The appreciating Canadian dollar means that Canada’s level of competitiveness on the global stage is even more deteriorated than it was before,” said Mendes. (Reporting by Kelsey Johnson and Fergal Smith; Editing by Dan Grebler)