TEXT-Excerpts from Bank of Canada speech

OTTAWA, Aug 27 (Reuters) - Following are key economic excerpts from a speech that Bank of Canada Deputy Governor Pierre Duguay was giving in Kingston, Ontario, on Monday.

Recent Economic and Financial Developments

Now let me conclude by turning to developments in the Canadian economy. I think it would be useful to recall what the Bank said in the Monetary Policy Report Update (MPRU) that we published in July. In that document, we said that economic growth and inflation in Canada in the first half of this year had been stronger than expected, and that the economy was now operating further above its production potential than was projected at the time of the April Report.

Our base-case projection was for average annual economic growth of about 2 1/2 per cent through 2009, slightly below our estimate of the growth rate of potential, allowing the economy to return to its production potential in 2009. Inflation was projected to be slightly higher than in the April Report, returning to the 2 per cent target by early 2009. We identified both upside and downside risks to our inflation projection, noting that these appeared to be roughly balanced.

The main upside risk related to the strength of household spending. The main downside risks related to the effects on the Canadian economy of the stronger Canadian dollar and of the ongoing adjustment in the U.S. housing sector. We increased our key policy interest rate to 4 1/2 per cent on 10 July, and said at that time that in line with our outlook, some modest further increase in the policy rate may be required.

Economic data published since the July MPRU have been roughly in line with expectations. Domestic demand in Canada has remained robust, against the backdrop of strong labor and housing markets. But given recent events in global credit markets, we need to assess the extent to which the risks around our July projection have shifted. Specifically, we are asking ourselves two questions: First, how much greater is the risk to the Canadian economy now posed by developments in the U.S. economy? And second, to what extent would the re-pricing of credit risk lead to a sustained tightening of credit conditions in Canada?

We will be considering these questions as we prepare for our next interest rate announcement on 5 September.