Canadian dollar weakens to 3-week low as oil falls

TORONTO (Reuters) - The Canadian dollar weakened to a three-week low against its U.S. counterpart on Wednesday as oil fell and government data showed a deep contraction in the country’s economy for the second quarter.

A Canadian dollar coin, commonly known as the "Loonie", is pictured in this illustration picture taken in Toronto January 23, 2015. The Canadian dollar strengthened against the U.S. dollar on Friday after Canadian CPI data showed an increase in core inflation. REUTERS/Mark Blinch (CANADA - Tags: BUSINESS) - RTR4MOVR

Canada’s economy shrank at an annualized 1.6 percent rate in the second quarter in its worst showing in seven years, hurt by a drop in exports and a disruption to oil production caused by wildfires in northern Alberta, according to data from Statistics Canada.

Still, there were signs that a pick up was already underway. The economy grew 0.6 percent in June.

“With the strong GDP numbers for June ... they (the Bank of Canada) may be of the view that they could get a stronger rebound in Q3 GDP than the 3.5 (percent) they have assumed,” said Paul Ferley, assistant chief economist, Royal Bank of Canada.

He expects the central bank to “stay on the sidelines.”

The implied probability of either a central bank rate hike or a rate cut by the end of the year was nearly zero, overnight index swaps data showed. Before the data a 4 percent probability of a rate cut was implied. BOCWATCH

At 9:20 a.m. EDT (1320 GMT), the Canadian dollar CAD=D4 was trading at C$1.3125 to the greenback, or 76.19 U.S. cents, weaker than Tuesday's close of C$1.3096, or 76.36 U.S. cents.

The currency’s strongest level of the session was C$1.3080, while it touched its weakest since Aug. 9 at C$1.3134.

U.S. crude CLc1 prices were down 0.97 percent at $45.90 a barrel, pressured by a strong dollar and high stocks of oil. [O/R]

Oil is one of Canada’s major exports.

The U.S. dollar .DXY extended gains against a basket of major currencies after a report by a payrolls processor showed U.S. private employers added 177,000 jobs in August. The figures come ahead of the U.S. Labor Department's more comprehensive non-farm payrolls report on Friday, which may offer clues on the outlook for U.S. interest rates.

The probability of a Federal Reserve rate increase in September climbed to 27 percent from 24 percent on Tuesday, according to the CME Group’s FedWatch calculation based on U.S. short-term interest rate futures.

Canadian government bond prices were mixed. The two-year CA2YT=RR bond dipped 0.5 Canadian cent to yield 0.589 percent, and the benchmark 10-year CA10YT=RR declined 9 Canadian cents to yield 1.031 percent.

Reporting by Fergal Smith Editing by W Simon