The Bank of Canada lowered its growth forecast for the Canadian economy on Thursday but indicated that a recession will be avoided.

 In 2008, pressured by a weakening U.S. economy and a tightening of credit conditions in industrialized countries, Canada's gross domestic product is forecasted to only expand by 1.8 per cent.

The bank had previously predicted a growth of 2.3 per cent.

In the first quarter of 2008, growth is expected to only be 0.6 per cent (at annualized rates). But in the second quarter it will grow to 2.0 per cent and in the second half of 2008 it should reach 2.3 per cent.

As a result, a recession -- generally defined as two straight quarters of decline in GDP -- will likely be avoided.

By 2009, the bank, in its Monetary Policy Report Update released Thursday, forecasts that the Canadian economy should expand by 2.8 per cent.

"This growth profile implies that the economy will move into excess supply in the second quarter of this year, and then return to balance in early 2010," Governor David Dodge said in his final press conference before he retires later this month.

The central bank also stated that the United States will narrowly avoid a recession.

Annual U.S. GDP growth is projected to be 1.5 per cent in 2008 and 2.5 per cent in 2009, said the bank.

Export growth

Dodge told reporters that the weakness of the U.S. economy will "lead to additional downward pressure on Canada's export growth."

The bank projects that exports -- mainly delivered to the U.S. -- will shrink in 2008 by 0.1 per cent after having advanced 0.6 per cent in 2007.

Still, Dodge said domestic demand in Canada is expected to remain strong.

On Tuesday, the central bank cut its key rate by one-quarter of a percentage point shortly after the U.S. Federal Reserve slashed its key interest rate.

"Further monetary stimulus is likely to be required in the near term to keep aggregate supply and demand in balance, and to return inflation to target over the medium term," Dodge said Thursday.

However, Dodge would not say if a half-point cut could be looming in the future.

"What we try to do, and have tried to do over this whole decade, is to move always in a measured fashion related to our medium-term goal of keeping inflation on target,'' said Dodge.

"And that's why we've tended to move over a period of time in relatively small increments, because it gives us a chance then to adjust or adapt to changes which we don't foresee, which come along.''

Meanwhile, core inflation -- which excludes the most unstable prices -- is projected to fall below 1.5 per cent by the middle of 2008 before it returns to 2 per cent by the end of 2009.

"This reflects a price-level adjustment related to increased competitive pressures in the retail sector stemming from the level of the Canadian dollar, as well as the recent reduction in the GST," said Dodge.

"Excluding the impact of the GST reduction, total CPI inflation is projected to average close to the 2 per cent target throughout 2008 and 2009."

With files from The Canadian Press