* Economic growth sluggish for second straight quarter
* December GDP contracts 0.2 percent
* Manufacturing PMI points to pickup in February
* Bank of Canada may soften hawkish stance further
By Louise Egan
OTTAWA, March 1 Canada's economy sputtered in the final quarter of 2012 as businesses sharply cut back inventories, resulting in the weakest six months since the 2008-09 recession, Statistics Canada data showed on Friday.
The report also showed the economy shrank in December, and the slowdown will likely add pressure on the Bank of Canada to keep stimulus in place for longer and weigh on the Conservative government as it prepares its next budget.
Gross domestic product expanded by 0.6 percent, annualized, Statistics Canada said, as shrinking stockpiles and a battered manufacturing sector offset strong consumer spending and increased business investment. The growth rate was in line with recently reduced forecasts.
"The key thing to note is a general theme of softness in all sectors of the economy, but it is encouraging to note that at least we did see a bounce back in business investment following the decline we saw in the third quarter," said Mazen Issa, a macro strategist at TD Securities.
"Heading forward, the Canadian economy is going to have a bit of a tough time trying to grow above its trend rate. That's largely dependent on how the U.S. performs this year."
It was the worst quarterly performance since the second quarter of 2011, when the economy contracted 0.8 percent in the aftermath of the Japanese earthquake and tsunami.
Excluding that extraordinary effect, the last time the economy fared worse was at the end of the recession in the second quarter of 2009, when it shrank 3.6 percent.
Statscan revised third-quarter growth to 0.7 percent from 0.6 percent previously.
Canada's economy has long recovered from the recession but last year struggled to gain traction. While it grew faster than the United States in the fourth quarter, it underperformed its neighbor for much of the year.
The economy shrank 0.2 percent in December. For 2012 as a whole it expanded 1.8 percent, down from the 2.6 percent pace seen in 2011.
But in a sign growth may improve in 2013 as most economists predict, the RBC Canadian Manufacturing Purchasing Manager's Index showed manufacturing activity grew in February at the fastest pace in five months.
The GDP report was not a huge shock. Forecasters had marked down their targets in recent weeks after a spate of downbeat data. And the Canadian dollar strengthened, as investors had been bracing for the possibility of an even worse number.
At 10:49 a.m., the currency was trading at C$1.0287 to the greenback, or 97.21 U.S. cents, compared with C$1.0314 at Thursday's North American close.
The growth estimate is the last major piece of data before the Bank of Canada's interest rate announcement on March 6, when it is expected to hold rates at 1 percent.
Markets are more interested in whether central bank chief Mark Carney will eliminate his hawkish tilt.
Carney, who will step down this year to head the Bank of England, has been signaling for months that he intends to hike rates but last month adopted a more dovish tone, saying such a move was "less imminent."
The GDP report "is not a huge surprise, but it will keep markets watching next week's policy meeting to see whether this data results in a further modification to the Bank of Canada's statement," said Paul Ferley, assistant chief economist at Royal Bank of Canada.
Global forecasters this week pushed back expectations for the central bank's next rate hike to the first quarter of 2014.
BUSINESS INVESTMENT COMEBACK
Consumer spending was the main driver of growth, increasing 0.7 percent for the second straight quarter.
But the upturn in business investment was also a welcome development, as Carney has urged the private sector to beef up spending to kick-start the economy.
Business and government capital investment rose 0.5 percent, and trade also provided a small boost.
However, in a big drag on GDP, businesses stockpiled only about C$5.7 billion in inventories in the fourth quarter, compared with C$13.5 billion in the third period.
The mining and oil and gas industries contributed most to growth in the quarter, partially offset by manufacturing.