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Interest rates expected to remain on hold until 2017, economists say

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The Canadian economy probably rebounded from a mild recession last quarter, helped by solid U.S. demand for its exports, but the recovery is not seen as strong enough to warrant an interest rate rise until 2017, according to a survey of nearly 50 economists

After slumping in the first half from a plunge in the price of oil, one of Canada's biggest exports, the economy will grow at an annualized rate of 2.5 percent in the third quarter and 1.7 percent in the fourth quarter, the Reuters poll showed.

Still, after the economy's unexpectedly poor performance in the first five months of the year, the outlook for 2015 was lowered to 1.2 percent from 1.3 percent seen in a Reuters poll in July. That is expected to pick up to 2.0 percent next year, also a notch lower than the 2.1 percent forecast in July.

"The worst is probably over for the Canadian economy and it is going to get pulled up a little bit now by the strengthening U.S. economy," said Mark Hopkins, senior economist at Moody's Analytics. "It just simply won't be as strong as we were thinking a year ago."

The Bank of Canada cut interest rates twice this year to offset the shock of cheaper oil. While the survey of nearly 50 analysts predicts the next move will be up, forecasters still put the probability the next move would be a cut at about one-in-three.

The bank was seen holding its benchmark interest rate at 0.50 percent at its next policy meeting on Oct. 21, according to 41 of the 42 economists questioned on monetary policy, while one of those polled forecast an interest rate cut.

Interest rate futures markets are currently pricing about a 90 percent probability of no rate change at the meeting.

Looking further ahead, the median forecast of the analysts was that the bank would hold rates through the end of 2016, with an increase coming in the first quarter of 2017.

Most also said Bank of Canada Governor Stephen Poloz was correct in expecting exports to pull the economy out of its slowdown, even if the improvement was gradual.

"It will be a very slow grind," said Charles St-Arnaud, senior economist at Nomura Securities International. "There are no other sectors that can take the lead."

Oil prices have fallen by more than half since the middle of last year, helping to drag the Canadian dollar down by more than 20 percent since then. Poloz has said the weaker currency should help certain sectors, including exports.

Still, the strength of the export recovery is still to be seen.

"Canadian exports even to this point have not quite responded the amount that one might think," said Hopkins.

In a separate Reuters poll, economists have also downgraded their growth projections for the United States, suggesting the optimism for a U.S.-led recovery in Canada may need to be reined in. [ECILT/US]

The U.S. economy will likely grow 2.6 percent in 2016, down from an earlier poll forecasting 2.7 percent.

If the Federal Reserve were to hike rates this year, Hopkins warned it could have an adverse effect on Canadian exports. "If it slows U.S. demand sufficiently, it could actually be a problem for Canadian growth."

With the household debt-to-income ratio at a record high, most forecasters said Canadian households were carrying too much debt and expressed some degree of concern that it could result in a correction in the housing market, where a major chunk of that debt is invested.

"The leveraging of the household sector is worrisome," said Jean-Paul Lam, associate professor at the University of Waterloo. "In most countries, we have seen severe corrections when household debt gets to the levels we are seeing here."

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