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WRAPUP 1-U.S. inflation muted despite food price increases; housing starts slip

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* Housing starts fall 0.2 percent in February

* Permits rise 7.7 percent, but single permits fall

* Consumer price index up 0.1 percent, but food prices jump

WASHINGTON, March 18 (Reuters) - U.S. consumer inflation was muted in February and housing starts fell for a third straight month in February, but the weak data probably will not dissuade the Federal Reserve from dialing back its monetary stimulus.

The Labor Department said its Consumer Price Index nudged up 0.1 percent as a decline in gasoline prices offset an increase in the cost of food. It had ticked up 0.1 percent in January and last month's gain was in line with economists' expectations.

In the 12 months through February, consumer prices increased 1.1 percent, slowing from a 1.6 percent rise in January. The February increase was the smallest rise since October last year.

Stripping out the volatile energy and food components, the so-called core CPI also rose 0.1 percent for a third straight month. In the 12 months through February, core CPI rose 1.6 percent after advancing by the same margin in January.

"The underlying trend shows there is not a lot of inflation. The Fed has to acknowledge that the transitory factors are more entrenched since inflation has run below their target for about two years," said Michael Hanson, a senior economist at Bank of America Merrill Lynch in New York.

Consumer inflation is running below the Fed's 2 percent target. The low level of inflation gives the U.S. central bank scope to keep interest rates near zero for some time.

A number of Fed officials have indicated they are comfortable with market expectations for the first increase in interest rates occurring sometime around the middle of next year.

With job growth accelerating and industrial production and consumer spending strengthening, economists expect the Fed to announce another $10 billion reduction to its monthly bond purchases when policymakers end a two-day meeting on Wednesday.

Last month, food prices rose 0.4 percent, the largest increase since September 2011. That accounted for more than half of the increase in the CPI last month.

There were big increases in the prices of meat, fish, poultry, eggs, vegetables and fruits.

Gasoline prices declined for a second month, helping to offset sharp gains in the price of heating oil and natural gas.

Within the core CPI, a 0.2 percent rise in the cost of shelter was the major contributor to the jump in the index. There were also increases in medical care, recreation and new vehicle prices. Prices for tobacco, used cars and trucks, apparel and household furnishings and operations fell.

In a separate report, the Commerce Department said on Tuesday housing starts slipped 0.2 percent to a seasonally adjusted annual rate of 907,000 units. Groundbreaking fell 11.2 percent in January.

While severe winter weather likely constrained building activity last month, housing has lost momentum after a run-up in mortgage rate last summer. High house prices and a lack of properties on the market are also holding back the sector.

Economists polled by Reuters had expected starts to rise to a 910,000-unit rate last month.

Groundbreaking plunged 37.5 percent in the Northeast last month, indicating unusually cold temperatures continued to dampen housing activity.

That was the biggest drop in more than two years and pushed starts in the Northeast to their lowest level since November 2012.

Starts also fell 5.5 percent in the West, which was unaffected by bad weather. The weather explanation for the weak housing data was challenged by a 7.3 percent rise in starts in the South and a 34.5 percent jump in the Midwest.

A report on Monday showed homebuilders were a bit optimistic in March but downbeat about sales over the next six months. Builders were also worried about shortages of lots and skilled labor, and rising prices for materials.

Groundbreaking for single-family homes, the largest segment of the market, rose 0.3 percent to a 583,000-unit pace last month. Starts for the volatile multi-family homes segment fell 1.2 percent to a 324,000-unit rate.

Permits to build homes increased 7.7 percent in February to a 1.02 million-unit pace. Permits for single-family homes fell 1.8 percent. Multifamily sector permits surged 24.3 percent.