The economic recovery in the United States is becoming self sustaining, says BMO Capital Markets, boosting the fortunes of both the U.S. and Canadian economies.

In a report released today, BMO observes, “The U.S. economy is starting to break free from the credit crisis’ gravitational pull. While it won’t reach for the stars this year, it should at least achieve a stable orbit.”

It now expects the U.S. economy to grow 3.0% in 2011 up from 2.3%. And, in light of the upward revision to the U.S. forecast, it also now expects Canada’s economy to expand at a 2.7% rate in 2011, up from 2.4%.

BMO says that elevated household debt levels will limit consumer spending to a 3% pace in 2011, but that businesses are in better fiscal shape “and should continue to spend freely”.

“Lofty commodity prices will continue to spur investment in the resource patch, shifting the regional growth pendulum back to the Western provinces and Newfoundland & Labrador,” BMO says. “An expected stronger Canadian dollar will moderate growth in Central Canada, though manufacturers will benefit from a pickup in U.S. demand.”

Despite the improved growth outlook, BMO expects that the U.S. Federal Reserve Board will refrain from raising rates for a third consecutive year. “The Bank of Canada remains concerned about the risks to the economy stemming from Europe’s credit crisis and the strong loonie,” BMO says, although it expects the Bank of Canada will resume tightening in May, with the overnight rate target rising to 2% by year end, before climbing to a more neutral 3.75% in late 2012.

“With the Bank of Canada re-applying the brakes, the Canadian dollar should trade a couple of cents above parity later this year,” BMO says.

Among downside risks, it cites the possibility that the European sovereign credit crisis worsens, a weakening in the U.S. housing market, a jump in Canadian house prices, continued growth in Canadian household debt, much higher oil and agriculture prices.

On the upside, “A potential shining star is the possibility that renewed job and credit growth could unleash a wave of pent-up demand in the U.S., thus reinforcing a virtuous cycle of economic growth,” BMO says.

IE