CANADA FX DEBT-C$ skids on weak GDP data, US default fears
* C$ ends at C$0.9555 vs US$, or $1.0466
* Bond prices extend gains across curve
* Canada May GDP unexpectedly contracts
* US Q2 GDP up less than forecast, Q1 revised down
* C$ down 0.7 pct for week, up 0.9 pct for month (Updates to close, adds details, comments)
By Claire Sibonney
TORONTO, July 29 (Reuters) - The Canadian dollar tumbled against the greenback on Friday as the U.S. debt default crisis and disappointing North American GDP data raised the specter that the economy could fall into recession.
The Canadian economy unexpectedly shrank in May as bad weather, a strong Canadian dollar and tepid U.S. demand took a toll, cutting expectations for an interest-rate increase. [nN1E76S093]
South of the border, data showed the U.S. economy stumbled badly in the first half of 2011 and came dangerously close to contracting in the January-March period, raising the risk of a recession if a standoff over the nation's debt does not end quickly. [nCAT005481]
"The last couple days things really turned against Canada a little bit," said Steve Butler, director of foreign exchange trading at Scotia Capital. "Just this whole (debt) situation in the U.S. is obviously causing the market a lot of angst ... but really today the GDP hit us kind of as a left, right,"
The Canadian dollar CAD=D4 finished the North American session at C$0.9555 to the U.S. dollar, or $1.0466, down from Thursday's close at C$0.9516 to the U.S. dollar, or $1.0509. The Canadian dollar was down 0.7 percent for the week, but it was up 0.9 percent for the month of July.
Following the release of the GDP data in the morning, the currency fell as low as C$0.9590 versus the U.S. dollar, its lowest level since July 19.
Butler said recent support for the Canadian dollar at C$0.9520 turned into resistance on Friday. On the flipside, he said C$0.9640-50 was now in play.
Most Canadian markets will be closed on Monday for various provincial holidays, but Butler said he expects the currency to trade fully as U.S. and European markets will be open.
Next week, all eyes will be the Aug. 2 deadline to raise the U.S. debt ceiling as Republicans pressed ahead with a deficit plan that cannot pass Congress and President Barack Obama urged lawmakers to find a way "out of this mess". [nN1E76S004]
The market is also braced for critical monthly employment data for Canada and the United States next Friday.
The gross domestic product figures on Friday ratcheted down market expectations that the Bank of Canada will raise interest rates in the autumn.
"I get the feeling that the market that was talking a couple of weeks ago about a hawkish (Bank of Canada) Governor (Mark) Carney is now going to start to take away some of those thoughts," Butler said.
"We're going to start talking about the fact that things look a little bit gloomy now for the Canadian economy and the prospects of another rate hike seem to be kind of slim to none this year."
A Reuters poll conducted last week showed most of Canada's primary dealers expect the central bank to raise interest rates in September or October. [CA/POLL]
Overnight index swaps -- which trade based on expectations for the key central bank policy rate -- showed investors paring back bets on a rate hikes in September, October and December. [BOCWATCH]
"While we believe that the most likely outcome is a mild pick-up in growth over the second half, the starting point is even weaker than we expected and there are still clearly plenty of potential dangers lurking ahead for the economy," Doug Porter, deputy chief economist at BMO Capital Markets, said in a note to clients.
Canadian bond prices rallied, tracking U.S. Treasuries higher on worries over economic growth and the outcome of U.S. deficit wrangling. [US/]
Canada outperformed its U.S. counterpart in the interest-rate sensitive short end of the curve, but lagged in the long end.
The two-year Canadian government bond CA2YT=RR rose 18 Canadian cents to yield 1.390 percent, while the 10-year bond CA10YT=RR jumped 81 Canadian cents to yield 2.787 percent. (Reporting by Claire Sibonney; editing by Peter Galloway)
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