The Bank of Canada has brightened its outlook for the Canadian economy, saying Tuesday it now thinks this year’s downturn won’t be as deep as previously forecast and 2010 growth will be stronger.

As expected the bank kept its key policy rate at the historic 0.25% low and repeated a pledge to keep it there until the spring of 2010.

But in a surprising move, the central bank said it is reducing the amount of money it is making available to chartered banks to support borrowing and lending because the need for such extraordinary measures is waning.

And it came as close as it has ever done to predicting the end of the most severe recession since the Second World War.

“There are increasing signs that economic activity has begun to expand in many countries,” the central bank said in an accompanying statement.

“[In Canada,] stimulative monetary and fiscal policies, improved financial conditions, firmer commodity prices, and a rebound in business and consumer confidence are spurring domestic demand,” it added.

Bank of Montreal economist Douglas Porter said the outlook was brighter than expected, considering the caution recommended by bank governor Mark Carney’s most recent public statements.

“They didn’t quite say ‘Ding Dong, the Recession’s Dead,’ but I think they really wanted to,” Porter said. “They danced all around the topic.”

He based that conclusion on the bank’s new numbers on future growth.

Carney is now forecasting the Canadian economy will shrink by 2.3% this year—a big improvement from April’s 3% contraction forecast—and grow half-a-point more than projected at 3% in 2010.

Given how far the economy fell back in the first half of 2009, it is virtually impossible for the deterioration to be held to 2.3% for the entire year without growth beginning now, during the current third quarter, Porter said.

CIBC chief economist Avery Shenfeld noted that the 3% growth projection for next year once again puts Carney among the most optimistic of analysts. Most private sector forecasts have the advance at about 2%.

Even so, Carney is making clear that he has not changed his mind that the road back to where the economy stood before the recession will be long and arduous, saying it will not be until mid-2011 before the economy will be running on all cylinders again.

Part of the reason is that restructuring in the auto, forestry and other sectors will take time and will hold back economic activity. The other is that the return of a strong dollar will hold back exports.