Canada is beginning to make solid gains in its economic recovery and should return to full capacity by the fall of next year, the country's central bank concludes in a new report.

The Bank of Canada predicts that the economy will expand by 2.9 per cent this year, followed by 3.5 per cent growth next year.

The Canadian economy is poised to increase faster than expected, the bank said, in part because its growth got off to a very slow start last summer. Things picked up in the last three months of 2009, when the economy grew by 3.3 per cent.

Bank governor Mark Carney told reporters that the central bank had also seen signs of growth in the global economy, but "the absolute level of global demand has diminished."

Compared to its previous predictions, the Bank of Canada now expects more growth in the United States, China, Europe and Japan -- developments that will benefit Canada's exporters and manufacturers, who were hard-hit during the recession.

To date, Canada's recovery is being driven by government stimulus. But as Ottawa begins to cut spending in the coming months, the private sector will play a much more significant role in the recovery.

The central bank and its governor say the private sector will be the sole driver of expansion in 2011.

Carney said the bank expects to see "broader consumption demand picking up, and in the latter-half of the year and into 2011, resumption of investment activity in the corporate sector as restructuring is undertaken and capacity begins to be taken up."

Inflation will reach the target level of 2 per cent by the third quarter of next year, at about the same time that the economy should reach full capacity, the bank said.

Moving forward, the bank intends to keep its overnight lending rate at 0.25 per cent until June, a policy decision it had previously announced.

The central bank outlined its expectations in its latest quarterly Monetary Policy Report, released Thursday morning.