The failure of other countries to deal with the trouble in their banking systems has dimmed the outlook for the Canadian economy, Mark Carney, governor of the Bank of Canada, said Thursday.

Canada’s central bank released its latest Monetary Policy Report today, in which the bank indicates that it now expects a deeper, longer recession. It now predicts that the economy will contract by 3% in 2009, that the recovery to be delayed until the fourth quarter, and when it comes the rebound will be more gradual than the bank initially expected.

The Bank of Canada also expects that the economy will grow by 2.5% in 2010 and 4.7% in 2011, and to reach its production capacity in the third quarter of 2011.

In a press conference after the report’s release, Carney said that if he had to attribute the bank’s dimming outlook to one factor, it would be the lack of progress in banking system repair in other countries. He noted that, following the latest G20 meeting in London earlier this month, the Bank of Canada believes that the plans are in place to fix foreign banks; which, coupled with massive monetary and fiscal stimulus, should be enough to pull the global economy out of its funk.

On the inflation front, the Bank of Canada expects that core inflation will diminish throughout 2009, gradually returning to the bank’s 2% target in the third quarter of 2011 as aggregate supply and demand return to balance. Total CPI inflation is expected to trough at -0.8% in the third quarter of 2009 and return to target in the third quarter of 2011.

The Bank of Canada said that it sees the underlying macroeconomic risks as roughly balanced, but that risks to its inflation projection are tilted slightly to the downside.

Currently, the Bank of Canada believes that its rock bottom overnight rate of 0.25%, and its commitment to keep rates that low until the middle of next year, is the appropriate policy stance. However, should the economy face further negative shocks, requiring even more expansive monetary policy, it laid out how it would go about deploying alternative policy mechanisms (credit and quantitative easing). The framework revealed in the report sets out the instruments that the central bank would consider using, if required, to achieve its inflation objective, and the principles guiding the possible use of these instruments.

“In a nutshell, there is no immediate plan to embark on QE by buying assets and, in fact, Governor Carney indicated in the press conference that additional extraordinary measures are ‘a big if’, and would be used only if there is a new negative shock to the outlook,” noted BMO Capital Markets.

“Given that the Bank of Canada’s latest economic forecast is already at the very low end of the consensus range, it seems that things would have to deteriorate considerably further to prompt extraordinary measures from the Bank,” BMO Capital Markets said, adding that the Bank’s announcement “left many questions unanswered”, as it didn’t provide specific details on the size or form QE would take.

“The Bank will only hop very gingerly on the QE bandwagon, and the Bank must first make the determination that more monetary easing is required before they actually embark on QE,” BMO concluded. “And, any purchases are likely to be very modest at the outset. While the Bank is not ‘philosophically opposed’ to QE, they seem reluctant to do more, at least at this point.”