UPDATE 3-Mexico annual inflation hits 5.37 pct in early July

(Adds market reaction, analyst's quote, background, byline)

By Noel Randewich

MEXICO CITY, July 24 (Reuters) - Mexico's annual inflation rose to 5.37 percent in early July, its highest level in more than three years, bolstering expectations that the central bank will raise interest rates again to cap soaring food prices.

Headline inflation MXCPIF=ECI in the first half of the month was 0.38 percent and the closely watched core consumer price index MXCPIH=ECI, which strips out some volatile food and energy prices, rose 0.24 percent, the central bank said on Thursday.

Many economists expect the bank to hike its key interest rate in coming months after boosting borrowing costs last week and in June.

"The inflation picture is far from offering comfort to a central bank fighting to get a grip on the inflation dynamics," Goldman Sachs economist Alberto Ramos said in a note.

The yield on Mexico's 3-year peso bond MX3YT=RR traded 12 basis points higher at 8.62 percent after the inflation data was released.

Investors in interest rates futures <0#TII:> also increased bets the central bank will hike borrowing costs.

The peso MEX01 MXN= was off by 0.30 percent at 10.039 per dollar after surging in recent sessions on expectations Mexican debt will remain attractive compared to U.S. Treasuries.

Inflation across Latin America has jumped as rapidly developing economies like India and China boost global demand for food commodities, while increasing amounts of grains are being diverted for use in making biofuels.

Higher prices for tomatoes, a staple food in Mexico, helped push the consumer price index higher in early July, the bank said.

Economists in a Reuters poll on average had forecast headline inflation at 0.25 percent in early July and core prices up 0.18 percent.

Last week, the central bank raised its key rate by a quarter percentage point to 8.00 percent, and policy-makers said the inflation outlook was so bad that the bank would have to revise upward its two-year price forecast later in the month.

Inflation in the first half of July last year was 0.25 percent and annual inflation was 5.28 percent.

As well as inflation, Mexico is also under pressure from the U.S. economic slump, expected to slow Mexican economic growth to 2.6 percent this year from 3.2 percent last year.

The central bank's interest rate hikes, meant to discourage consumers and companies from borrowing and spending, are an additional brake on economic expansion.

Mexico's long-term target is to keep annual inflation at 3 percent, but it considers up to 4 percent to be acceptable. (Editing by Leslie Adler)