UPDATE 3-Canada economy shrinks in August as oil, mining slump

* Growth unexpectedly contracts 0.1 percent from July

* Mining, oil and gas, manufacturing decline most

* Analysts see broad weakness, cutting forecasts

* Bank of Canada seen on hold for longer

OTTAWA, Oct 31 (Reuters) - The Canadian economy shrank unexpectedly in August, pointing to a sharp third-quarter slowdown in growth from the first half and reinforcing the Bank of Canada's message that interest rate hikes are less imminent.

The surprising 0.1 percent contraction in August from July reflected broad weakness across most industries, prompting economists to revise forecasts down. The Canadian dollar weakened to below parity with its U.S. counterpart.

The Canadian economy recovered more quickly than most from the global recession and is expected to grow at slightly more than 2 percent this year, according to forecasts that Finance Minister Jim Flaherty said on Wednesday were still valid.

But the outlook is shaky due to the choppy U.S. recovery and the European debt crisis, prompting questions about whether August was a blip or the start of a more serious economic downturn.

August's dip was the first monthly contraction in GDP since February. Statistics Canada said on Wednesday it was largely caused by decreased production in the natural resources sector - oil and gas extraction and mining - as well as in manufacturing,

Statscan said temporary maintenance work at some mines and oilfields was partly to blame. But some economists argued that the economy had stalled more broadly.

``There are too many negatives in this report to dismiss the headline weakness as being attributable to just temporary disruptions in some sectors,'' said Derek Holt and Dov Zigler of Scotia Capital.

Doug Porter, deputy chief economist at BMO Capital Markets, noted that output fell in 10 of 18 sectors. ``We can't brush this off as driven by special factors,'' he said.

Flaherty was more sanguine. ``We're going to see some variations, but overall, for the year we are on track with GDP growth,'' he told reporters.

Flaherty expects 2.1 percent growth this year, based on the average forecast of private sector economists his office surveyed this month.

The Bank of Canada has also suggested the third quarter was an anomaly. Last week it halved its forecast for third-quarter growth to an annualized 1 percent, but predicted a rebound to 2.5 percent growth in the fourth quarter and average growth of more than 2 percent through 2014.


The Canadian dollar weakened after the data was released to C$1.0009 to the U.S. dollar, or $0.9991, compared with C$0.9985 just before the data and C$0.9993, or $1.0007, at Tuesday's North American close.

Canadian government bond prices turned positive, especially at the front end of the curve, and outperformed U.S. Treasuries.

The news comes a week after the central bank said it is still leaning toward raising interest rates, not lowering them, although it made clear any such move was still far away.

``This report will further lead markets to question the BoC's hiking bias even as it went relatively more dovish than previously,'' said Holt and Zigler.

Overnight index swaps, which trade based on expectations for the central bank's key policy rate, showed that after the announcement traders pulled their bets on the possibility of a rate hike in late 2013.

The central bank has held its key interest rate at 1.0 percent for over two years. Since April it has signaled rate increases on the horizon but last week said they were ``less imminent''. 1/8ID: nL1E8LO790 3/8

Statscan said output in the mining industry slid 2.8 percent in August, partly due to scheduled maintenance at some metal ore sites and declines at potash mines. Oil and gas extraction slumped 0.4 percent, also on maintenance in some oilfields.

The manufacturing sector slid 0.6 percent.

The biggest contributor to growth in the month was wholesale trade.