July 9, 2010 / 1:59 PM / in 7 years

Canada rate hikes seen after stunning job gain

<p>Shadows are seen as a man walks down Bay Street in the financial district in Toronto, March 11, 2009.Mark Blinch</p>

OTTAWA (Reuters) - Canada's economy created six times more jobs than forecast in June, a near-record gain that pressures the central bank to raise interest rates again this month even as cracks in the U.S. recovery threaten to cool the country's scorching growth.

The staggering employment gain contradicts a recent string of weaker data, including another report on Friday showing housing starts fell in June.

Statistics Canada said on Friday that employment surged by 93,200 in June, flying past market expectations for 15,000 jobs.

In the past year, services sector job growth has more than doubled that of the goods-producing sector. The trend continued in June.

Businesses are generally more confident about the domestic economy than export markets, particularly the United States, where demand for Canadian goods is faltering. That partly explains why services like retail stores and wholesalers created the most jobs in June, while factory owners dismissed workers.

The overall gains were the second largest on record after the 108,700 reported in April. The labor market has now nearly recovered the 417,000 jobs lost during the recession.

Still, the unemployment rate is well above pre-recession levels at 7.9 percent, though down from 8.1 percent in May.

Even taking into account signs of slowing domestic growth, the labor market strength reflects an expanding economy where emergency low interest rates no longer make sense, analysts said. The report increased expectations of a second consecutive central bank rate hike on July 20.

"There is a lot of strength from top to bottom and so clearly this is bond-bearish, it is Canadian dollar-positive, and it argues for hikes not just in July but arguably beyond," said Eric Lascelles, chief Canada macro strategist at TD Securities.

The Canadian dollar surged to its strongest value since late June after the data, hitting C$1.0296, or 97.13 U.S. cents. Bond and money market yields also rose.

The Bank of Canada raised rates on June 1 to 0.5 percent from a record low of 0.25 percent, becoming the first among the Group of Seven industrialized nations to start tightening monetary policy after the financial crisis.

In a Reuters poll conducted after the data, all 12 of Canada's primary securities dealers predicted the bank would raise rates this month and again in September.

Yields on overnight index swaps, which trade based on expectations for the Bank of Canada's key policy rate, are pricing in an 84 percent likelihood of a July 20 rate hike.

'GAME OF SUDOKU'

It was tough to find any negative details in the employment report, which showed strong private sector hiring and gains split evenly between full-time and part-time positions.

But market excitement about imminent rate hikes was tempered by some skepticism about the sustainability of jobs growth and a history of volatile Canadian employment data.

Signs of fatigue in the U.S. recovery, European debt woes, monetary tightening in China could all inflict collateral damage on export-reliant Canada, where growth stalled in April after seven straight months of expansion.

Easing wage inflation pressures may also give the Bank of Canada leeway to raise borrowing costs at a more leisurely pace.

Statscan said the average hourly wage of permanent employees, watched by the Bank of Canada for inflation pressure, rose 2 percent in June from a year earlier, down from the 2.7 percent in May.

"Right now it's almost like a game of Sudoku in that the (central) bank is weighing what's going on domestically ... that global backdrop is what the Bank of Canada is concerned about for Canada looking forward," said Tom Nakamura, fixed-income portfolio manager at AGF Investments.

"My thoughts are that they will continue to embark on a rate hike path ... the pace and timing will be uncertain," he said.

Friday's jobs report showed service industries did all the hiring in June. Layoffs in manufacturing exerted a drag on the goods-producing sector as factories shed 14,000 workers and employment in that sector remained 11.9 percent below pre-recession levels.

Analysts said fears the U.S. may slip back into recession were partly to blame for the factory layoffs. Jayson Myers, president of Canadian Manufacturers and Exporters, said uncertain market conditions "led manufacturers to put new hires on hold."

Separately, a less buoyant report showed housing starts fell in June to a seasonally adjusted annualized rate of 189,300 units from a revised 195,300 in May. This was below analyst expectations, though May's numbers were revised up.

The decline in starts is further evidence that the housing market, which helped drive the recovery but was also feared to be overheating, will slow in the second half.

Additional reporting by Claire Sibonney and John McCrank in Toronto; Editing by Frank McGurty, Jeffrey Hodgson and Rob Wilson

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