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UPDATE 2-U.S. finds Canada dumped lumber, sets duties

(Adds Canadian comment, background)

WASHINGTON, Nov 2 (Reuters) - The U.S. Department of Commerce on Thursday set final duties on Canadian softwood lumber after finding that imports were being unfairly subsidized and dumped in the United States, escalating a trade dispute with Canada in the midst of NAFTA trade talks.

The decision imposes anti-dumping and anti-subsidy duties affecting about $5.66 billion worth of imports of the key building material.

Canada called the measures "unfair, unwarranted and deeply troubling" and said it was considering its options, including legal action through the North American Free Trade Agreement (NAFTA) and the World Trade Organization (WTO).

The department said exporters from Canada have sold softwood lumber in the U.S. market at 3.20 percent to 8.89 percent less than fair value, and that Canada is providing unfair subsidies at rates of 3.34 percent to 18.19 percent.

The decision follows failed talks to end the decades-long lumber dispute between the neighbors.

"While I am disappointed that a negotiated agreement could not be made between domestic and Canadian softwood producers, the United States is committed to free, fair and reciprocal trade with Canada," U.S. Commerce Secretary Wilbur Ross said.

"This decision is based on a full and unbiased review of the facts in an open and transparent process that defends American workers and businesses from unfair trade practices," Ross said.

The disagreement centers on the fees paid by Canadian lumber mills for timber cut largely from government-owned land. They are lower than fees paid on U.S. timber, which comes largely from private land.

The Canadian government argues that its fees are fair and is prepared to litigate the matter if a settlement cannot be reached.

"We urge the U.S. administration to rescind these duties, which harm workers and communities in Canada," Canadian Foreign Minister Chrystia Freeland said in a joint statement with Canadian Natural Resources Minister Jim Carr.

"We will forcefully defend Canada's softwood lumber industry, including through litigation, and we expect to prevail as we have in the past. We are reviewing our options."

Jason Brochu, co-chair of the U.S. Lumber Coalition and president of Pleasant River Lumber Company, said U.S. lumber companies can now expand production to meet U.S. demand.

"The massive subsidies the Canadian government provides to their lumber industries have caused real harm to U.S. producers and their workers," said Brochu.

The decision is likely to further escalate tensions between the United States and Canada during difficult negotiations between the United States, Canada and Mexico to modernize the North American Free Trade Agreement.

In September, in the midst of the third round of NAFTA talks, the United States slapped preliminary anti-subsidy duties on Canadian jetmaker Bombardier Inc's CSeries jets after rival Boeing Co accused Canada of unfairly subsidizing the aircraft. (Reporting by Eric Walsh and Lesley Wroughton; editing by David Alexander and Andrew Hay)