WASHINGTON (Reuters) - Construction of new homes in the United States hit a six month low in October, providing more evidence of the economy’s sluggish recovery, while a surge in the cost of new and used vehicles lifted consumer prices.

The data came a day after a report showed U.S. industrial output barely budged last month, suggesting the recovery stalled somewhat after a growth spurt in the third quarter.

Analysts said slow healing in the housing market, relatively benign inflation and excess slack in the economy meant the Federal Reserve would be able to honor its commitment to keep interest rates near zero for an extended period.

“It’s going to be a slow, uneven recovery. There has been a bit of a pause in the last month or so. We have a low growth situation here, but I wouldn’t say it’s big enough to return to recession,” said Nick Kalivas, vice president of financial research at MF Global in Chicago.

The Commerce Department said housing starts dropped 10.6 percent to an annual rate of 529,000 units, the lowest since April. It was the biggest decline in 10 months.

Financial markets had expected starts to rise to a 600,000 units pace. U.S. stocks fell on the surprise drop, ending three days of gains that had hoisted the major indexes to 13-month highs. Stocks ended just off their 2009 highs.

Separately, the Labor Department said the Consumer Price Index rose 0.3 percent last month as the cost of new vehicles rose by the most in more than 28 years. The increase in consumer prices was a touch above market expectations.

However, widespread price pressures were absent and analysts attributed the rise in vehicle prices to the government’s now expired “cash for clunkers” program, which had depressed auto prices by offering discounts.

Given weak auto sales, it was unlikely the rise in vehicle prices would be maintained in the months ahead, they said.

U.S. government bond prices slipped on the inflation data.

Core consumer prices, which exclude food and energy costs, rose 0.2 percent last month, the same as in September. Over the past 12 months, core prices are up 1.7 percent, higher than in September but still well below the year-earlier measure.

“We continue to expect weaker inflation in 2010 as a result of the substantial amount of spare capacity in the economy,” said Anna Piretti, an economist at BNP Paribas in New York.

Construction of new homes in the United States hit a six month low in October, providing more evidence of the economy's sluggish recovery, while a surge in the cost of new and used vehicles lifted consumer prices. REUTERS/Graphic

CONSTRUCTION ACTIVITY DROPS

Groundbreaking for single-family homes fell 6.8 percent last month to an annual rate of 476,000 units, the lowest since May. Starts for the volatile multifamily segment tumbled 34.6 percent to a 53,000 annual pace, extending September’s slide.

High vacancy rates, especially in the multi-family segment, and tight credit will slow building projects for a while, analysts said.

The slump in activity is a blow to the housing market, which had shown signs of stabilization after a three-year slump. Homebuilding contributed to economic growth in the July-September period for the first time since 2005.

Some analysts said the Fed may even need to step in with fresh support for the economy.

“Amid disappointing housing numbers, it would certainly be no surprise if the Fed decides to extend its purchases of mortgage-backed securities beyond the first quarter of 2010 in order to support the housing market,” said Harm Bandholz, an economist at UniCredit Markets and Investment Banking.

Driven by government stimulus, the U.S. economy expanded in the third quarter after four straight quarters of decline, likely breaking the back of the recession.

President Barack Obama told Fox News in Beijing on Wednesday it was important to contain the nation’s budget deficits, warning if too much debt piled up, it could lead to a double-dip recession.

Still, he repeated that his administration was considering ways to accelerate economic growth, with tax measures among the options to give companies incentives to hire.

The recovery in the housing market has been led by a popular $8,000 tax credit for first-time buyers.

It had been due to expire this month, but has since been extended and expanded. In October, it was unclear whether the incentive would be extended and this could have contributed to the slide in construction activity last month.

New building permits, which give a sense of future construction activity, fell 4 percent in October to a 552,000 unit annual rate.

For a graphic on the relationship between U.S. building permits and homebuilder stock prices, please clickhere

The inventory of homes under construction touched a record low 560,000 units, while the number of permits authorized but not yet started tumbled to an all-time low of 93,900 units.