Surprise retail sales rise doesn't dispel gloom

By Mark Felsenthal

WASHINGTON (Reuters) - U.S. retail sales rose unexpectedly in March as consumers dug deep to cover record high gasoline costs, according to a government report on Monday that did little to dispel the gloom hanging over the economy.

Retail sales increased 0.2 percent last month after a 0.4 percent fall in February, the Commerce Department said. Wall Street analysts were expecting sales to hold steady.

The rise, however, reflected a surge in gasoline prices that pushed gas station receipts up a sharp 1.1 percent.

Excluding gasoline, sales were flat last month, suggesting the consumer spending that fuels two-thirds of the economy's thrust is flagging.

"It is a report that seems to highlight that consumers are moving into a more cautious mode," said Drew Matus, senior financial economist at Lehman Brothers in New York.

The rise in retail sales initially lent U.S. stocks some support, but stocks later fell as an unexpected quarterly loss at Wachovia Corp WB.N hurt bank shares. Bond prices also fell in thin volume, while the dollar was little changed.

RECESSION BOUND?

The data follows a report last week showing U.S. consumer sentiment hit its lowest level in more than a quarter century in April as worries on jobs and inflation darkened shoppers' moods.

With employment dropping, factory activity shrinking and no end in sight for the deep housing slump, many economists have concluded the United States has fallen into recession.

The U.S. Federal Reserve has cut benchmark interest rates by 3 percentage points since mid-September to battle the spreading weakness and has provided liquid funds to financial markets at risk of choking on mortgage-related securities.

The tightening of credit brought on by rising U.S. mortgage defaults threatens to weaken the economy further.

"While the adjustment process by financial intermediaries is showing signs of promise, the healing process is not likely to be linear," Fed Governor Kevin Warsh warned in a speech, suggesting markets will see further bumps in the road.

The Fed is expected to lower rates again at its next meeting on April 29-30, perhaps by a sizable half-percentage point.

INFLATION ERODING BUYING POWER

Higher fuel costs are just one factor weighing on consumers. Food prices have also been skyrocketing.