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CANADA FX DEBT-C$ posts biggest gain since January as rate cut bets recede

Fergal Smith

(Adds details on BoC rate decision, updates prices)

* Canadian dollar rises 0.9% against the greenback

* Bank of Canada leaves benchmark rate on hold at 1.75%

* Canada posts a C$1.12 billion trade deficit in July

* Canada-U.S. 2-year spread hits narrowest since October 2017

TORONTO, Sept 4 (Reuters) - The Canadian dollar posted its biggest gain in seven months against the greenback on Wednesday on lowered expectations for a Bank of Canada interest rate cut in October after the central bank's policy decision made no mention of future moves. The bank held its benchmark interest rate at 1.75% as expected but said the escalating U.S.-China trade war was doing more damage to the global economy than it had forecast in July.

"They haven't pigeon-holed themselves into an October cut," said Simon Harvey, FX market analyst for Monex Europe and Monex Canada. "This is why the loonie is rallying." The central bank referred to deterioration in the world trade outlook but also "heavily stressed the fact that the Canadian economy has exceeded expectations in the last few months," Harvey said. Chances of an interest rate cut in October fell to about 50% from nearly 70% before the announcement, data from the overnight index swaps market showed. Canada's economy expanded at a surprisingly strong annualized rate of 3.7% in the second quarter, a pace much higher than the Bank of Canada had predicted, thanks to a resurgence in goods exports. But data on Wednesday showed Canada's trade deficit was wider than expected at C$1.12 billion in July, a sign that the domestic economic boost from trade in the second quarter may not be repeated.

At 2:53 p.m. (1853 GMT), the Canadian dollar was

trading 0.9% higher at 1.3220 to the greenback, or 75.64 U.S. cents, its biggest gain since Jan. 30. The currency, which hit on Tuesday its weakest intraday level in 2-1/2 months at 1.3382, traded in a range of 1.3219 to 1.3343. Gains for the loonie came as the price of oil, one of Canada's major exports, was boosted by a wider market pickup on positive news from China's services sector, after three days of losses due to fears about a weakening global economy.

U.S. crude oil futures settled 4.3% higher at $56.26

a barrel. Canadian government bond prices fell across the yield curve,

with the two-year down 3.5 Canadian cents to yield1.334% and the 10-year falling 13 Canadian cents to

yield 1.128%. The gap between Canada's 2-year yield and its U.S. equivalent narrowed by 4.2 basis points to a spread of -10.4 basis points, its narrowest gap since October 2017.

(Reporting by Fergal Smith; Editing by Steve Orlofsky, David Gregorio and Richard Chang)