U.S. consumer prices rose modestly last month, while new home building bounced back from an October slump, suggesting inflation is not yet a concern even as the economy's recovery moves forward.

The Labor Department said on Wednesday the Consumer Price Index rose 0.4 percent in November after a 0.3 percent gain in October, pushed up by a strong increase in energy costs. Excluding food and energy however, prices were flat, cooling inflation worries in financial markets.

A series of sturdy data, including a sharp rise in prices at the producer level in November, had fanned speculation the Federal Reserve -- the U.S. central bank -- could soon be forced to shift away from its pledge to keep interest rates exceptionally low for an extended period.

The Fed kept overnight borrowing costs unchanged near zero at the end of a two-day meeting on monetary policy on Wednesday and reaffirmed its commitment to low rates for a long time.

The policy-setting Federal Open Market Committee's statement said economic activity was picking up and deterioration in the labor market was abating, though businesses remained reluctant to hire. It also said substantial resource slack would continue to dampen price pressures.

The excessive slack that remains in the economy should keep inflation contained. This should provide the Fed with some continued leeway to maintain its accommodative stance, said Jim Baird, chief investment strategist at Plante Moran Financial Advisors in Kalamazoo, Michigan.

Over the last 12 months, consumer prices have risen 1.8 percent, the first year-over-year gain since February.

A separate report from the Commerce Department showed housing starts rose 8.9 percent to a 574,000 unit annual rate last month, a solid gain but slightly below market expectations, suggesting a recovery in housing was on track.

U.S. short-term interest rate futures rose as traders bet the Fed would hold rates near zero longer than initially anticipated. A Reuters survey on Wednesday showed most firms that deal directly with the Fed expect tighter monetary policy by the end of the first quarter of 2011.

We have a very high unemployment rate, we are running at a lower rate of (industrial) capacity utilization. It's just not the environment right now in which inflationary pressures are expected to build, said Dana Saporta, economist at Stone & McCarthy Research Associates in Princeton, New Jersey.

INFLATION CONTAINED

While the consumer price report showed inflation pressures are largely contained, the downward pressure on prices the Fed sought to combat with its sharp interest rate cuts has abated.

A drop in rental costs last month offset gains in prices for vehicles, medical care and airline fares to keep the so-called core CPI, which strips out food and energy costs, unexpectedly flat when compared with October.

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Analysts said high vacancy rates, coupled with problems in the commercial property market, should continue to weigh on rental prices, helping to keep a lid on inflation pressures.

On a year-over-year basis, core inflation slowed to a 1.7 percent gain in the period through November from the 1.8 percent rise in the 12 months through October.

While home construction bounced back in November, groundbreaking for single-family dwellings -- the largest segment of the housing market -- was less robust.

Starts for single-family homes rose 2.1 percent to an annual rate of 482,000 units, failing to fully reverse the prior month's sharp drop.

However, analysts were encouraged by a strong rise in permits for future building activity. Permits rose 6 percent to 584,000 units last month, the highest since November 2008.

We continue to think that housing activity will improve steadily into the first quarter, but a broader economic recovery needs to be in place in order to see a sustained recovery in the housing sector, said Omair Sharif, an economist at RBS in Greenwich, Connecticut.

Construction starts for the volatile multifamily housing sector surged 67.3 percent to a 92,000 annual pace, reversing the previous month's plunge.

The inventory of all homes under construction fell 3.2 percent to a record low of 540,000 units in November. Many analysts say inventories need to decline further for the housing market recovery to be sustained.

(Additional reporting by Mark Felsenthal; Editing by Kenneth Barry)

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