By Leah Schnurr
TORONTO (Reuters) - The Canadian dollar weakened slightly against the greenback on Friday as data showed the annual inflation rate fell to a five-month low in October, reinforcing the market view that Canadian interest rates will remain on hold for some time.
Lower gasoline prices helped push the inflation rate down to 0.7 percent last month, weaker than the 0.9 percent economists' had expected.
The figures highlighted how little pressure there is on the Bank of Canada to raise rates. The central bank has kept rates at 1 percent since September 2010 and recently, in a major policy shift, dropped any mention of an eventual rate rise.
Core inflation, which strips out volatile items and is closely watched by the Bank of Canada, was in line with expectations, dipping to 1.2 percent from 1.3 percent.
Although the Canadian dollar subsequently trimmed losses following the release of the inflation data and a separate report that showed retail sales rose more than expected in September, it was under heavy pressure for a second day.
It dropped on Thursday following remarks by Bank of Canada Governor Stephen Poloz, who said the bank's economic analysis differs from that of the Organization of Economic Cooperation and Development (OECD), which recommended that Canada start raising interest rates as soon as 2014.
"It's part of the more recent trend that has emerged since yesterday of a weaker Canadian dollar, and perhaps that's stemming from the view that some participants may think the bank could resort to a lower rate," said Mazen Issa, macro strategist at TD Securities in Toronto.
"In our opinion, it reinforces the view that the bank's going to be very much on the sidelines and stay very dovish with regards to the outlook, but we see a rate cut as a low probability."
The Canadian dollar ended the North American session at C$1.0524 versus the U.S. dollar, or 95.02 U.S. cents, modestly weaker than Thursday's close of C$1.0521, or 95.05 U.S. cents. The loonie hit a low of C$1.0570 in early trading, its weakest since July. For the week, the Canadian currency gave up 0.8 percent.
A recent Reuters poll of primary dealers showed the Bank of Canada is expected to keep its key rate at 1 percent well into 2015.
While the domestic interest rate environment has been a factor in the markets in recent sessions, signals of when the U.S. Federal Reserve will start to withdraw its economic stimulus will likely be the next big driver for the loonie, said Greg Anderson, global head of foreign exchange strategy at BMO Capital Markets in New York.
Investors are trying to gauge whether the Fed will announce it is reducing its pace of bond purchases at its next meeting in December, or hold off until 2014. A key data point will be the November unemployment report, which will be released in early December.
"If the U.S. (payrolls) number was good enough to put taper on the table for December, I think we'd go to C$1.07 at least," Anderson said.
Canadian bond prices were mixed across the maturity curve, with the two-year bond off half a Canadian cent to yield 1.108 percent, while the benchmark 10-year bond was up 35 Canadian cents to yield 2.579 percent.
(Editing by Peter Galloway)