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OTTAWA (Reuters) - Canada's economy shrank 0.3 percent in August, erasing some of July's sharp gains but still pointing to modest growth in the third quarter before the full impact of the global financial crisis hit.
Statistics Canada said on Friday the downturn was due to weakness in the manufacturing, wholesale trade and energy sectors -- the same groups that drove growth in July.
The setback was slightly milder than the median forecast of a 0.4 percent contraction in a Reuters poll and was the weakest performance since February. Most economists had foreseen a retreat from the surprisingly strong 0.7 percent expansion of gross domestic product in July.
Year-on-year growth in August tumbled to 0.6 percent from 1.2 percent in July.
Dawn Desjardins, assistant chief economist at RBC Economics Research, now sees the economy growing about 1.5 percent annualized in the third quarter, down from an earlier forecast of 2.5 percent. The latest forecast from the Bank of Canada projects third-quarter growth of 0.8 percent.
"Even at this slower pace, we still think it is likely that the third quarter will mark the high-water mark for growth this year with financial market stress through the autumn keeping the cost of capital high and the U.S. economy likely having slipped into recession," Desjardins wrote in an e-mail to clients.
The August data supports the view that the Bank of Canada will cut its key overnight lending rate again in December.
The central bank has lopped 225 basis points off its key interest rate since December and earlier this month signaled it may ease rates again.
"We look for another 25 basis-point cut in the (Bank of Canada's) policy rate to 2 percent before yearend," Desjardins said.
The GDP data helped support a rally in bond prices, buoyed by a wave of demand for government debt as investors fled volatile equity markets. The Canadian dollar, reacting primarily to the global equity market slide, fell against the U.S. dollar.
Manufacturing, battered by the U.S. housing collapse and slowing economy, slid 1.1 percent in August after climbing 1.2 percent in July.
Wholesale trade retreated 3.1 percent on softness in the automotive and construction businesses, outweighing the 1.9 percent gain a month earlier. Output in the energy sector, which had jumped 2.7 percent in July, fell 0.5 percent in August due to declines in extraction and refinery production.
Analysts said data for September, the final leg of the third quarter, will likely reflect more fully the U.S. slide into recession and distressed credit markets. That will lead into a mild contraction in the fourth quarter, they say.
"In September and October the consumer and economy is expected to lose its innocence as the full brunt of the global financial crunch wash up on the Canadian shores," said Stewart Hall, markets strategist at HSBC Canada.
Reporting by Louise Egan; Editing by Peter Galloway