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WASHINGTON (Reuters) - The U.S. economy ended 2012 on a surprisingly sound note as factory output climbed and low inflation lifted consumers' purchasing power, signs the economy may be able to weather the higher tax bills that rang in the new year.
Manufacturing output climbed 0.8 percent in December, the Federal Reserve said on Wednesday, a day after retail sales data pointed to robust consumer spending last month.
"There is every indication that the improvement may be a reflection of a broader pick-up in overall economic activity," said Millan Mulraine, an economist at TD Securities in New York.
The rise in demand appears unlikely to derail the Federal Reserve's easy monetary policy anytime soon given the lack of inflation. The Labor Department said consumer prices were flat in December, restrained by a decline in gasoline prices.
That's good news for consumers still smarting from the 2007-09 recession. Weekly earnings rose 0.6 percent last month when adjusted for inflation, the Labor Department said.
The earnings data means family budgets started this month on slightly better footing as a rise in payroll taxes hit workers and the wealthiest Americans faced higher income taxes.
The tax hikes, aimed at reducing the lofty federal budget deficit, are expected to hold consumer spending back in the first half of 2013. Some economists think higher taxes will subtract a full percentage point from economic growth this year.
U.S. financial markets were little moved by the data, even though the increase in factory output and real earnings beat the forecasts of analysts polled by Reuters.
Gains in manufacturing appeared broad-based, tempering the view that some of the growth resulted from a temporary bounceback after Superstorm Sandy tore into life on the U.S. East Coast in late October and early November.
Output of motor vehicles and parts jumped 2.6 percent, while production of machinery gained 0.6 percent. Factories churned out 1.5 percent more computers and electronics. Overall industrial production rose 0.3 percent.
Still, the data offered a reminder that the trend in factory output, like the broader economy, remains lackluster. Output of consumer goods fell 0.1 percent from November, and overall manufacturing managed only a 0.2 percent gain in the fourth quarter when measured at an annual rate.
"The manufacturing sector is just about keeping its head above water," said Paul Ashworth, an economist at Capital Economics in Toronto.
Economic growth is widely seen as having slowed in the fourth quarter as businesses restocked shelves at a slower pace.
The Fed said in December it would keep interest rates near zero at least until the jobless rate falls to 6.5 percent, as long as the central bank believes inflation will stay below 2.5 percent. Fed Chairman Ben Bernanke said officials do not expect the jobless rate -- which stands at 7.8 percent -- to reach 6.5 percent until sometime in late 2015.
Wednesday's inflation data reinforced the view that inflation will not hit the Fed's threshold anytime soon.
"This leaves Ben Bernanke and the Fed with a free hand to continue with ultra-accommodative monetary policy." said Michael Woolfolk, a currency strategist at BNY Mellon in New York.
To boost growth and get Americans back to work in the wake of the Great Recession, the Fed has kept interest rates near zero since late 2008 and has bought some $2.5 trillion in assets.
Some economists think steady improvement in the labor market could at least lead the Fed to curtail its asset-buying program by the end of this year.
The Fed targets 2 percent inflation, but uses a separate index of inflation that tends to run cooler than the Consumer Price Index. By either measure, annual inflation remains below the Fed's target.
In the 12 months to December the CPI increased 1.7 percent, the smallest increase since August. A measure of core prices, which strips out volatile food and energy prices to give a better sense of inflation trends, was up 1.9 percent.
"This supports the Fed's contention that inflation is mild and that inflation expectations should be stable," said Terry Sheehan, an economic analyst at Stone & McCarthy Research Associates in Princeton, New Jersey.
The Fed's efforts to lower interest rates are helping many Americans buy homes, and housing is expected to provide a substantial boost to the economy this year.
U.S. homebuilder confidence in the market for single family homes held steady at near seven-year highs in January, suggesting the outlook for the housing market remained upbeat.
The NAHB/Wells Fargo Housing Market index was at 47 this month, the highest level since April 2006.
Separately, the Mortgage Bankers Association said applications for U.S. home mortgages rose last week, the second straight week of gains.
Additional reporting by Lucia Mutikani in Washington, and Edward Krudy, Ellen Freilich and Wanfeng Zhou in New York; Editing by Neil Stempleman, Tim Ahmann and Leslie Adler