WRAPUP 2-U.S. consumer prices unchanged; retail sales fall again

(Adds industrial output data, analyst comments, updates markets)

Consumer price index unchanged in June

* CPI increases 1.6 percent year-on-year

* Core CPI rises 0.1 percent; up 1.7 percent year-on-year

* Retail sales fall 0.2 percent; core sales dip 0.1 percent

By Lucia Mutikani

WASHINGTON, July 14 (Reuters) - U.S. consumer prices were unchanged in June and retail sales fell for a second straight month, pointing to tame inflation and soft domestic demand that diminished prospects of a third interest rate increase from the Federal Reserve this year.

Still, the economy likely gained speed in the second quarter after a sluggish performance at the start of the year. Other data on Friday showed industrial production picked up in June amid a rise in output at mines and factories.

The Labor Department said the unchanged reading in its Consumer Price Index came as the cost of gasoline and mobile phone services declined further. The CPI dropped 0.1 percent in May and the lack of a rebound in June could trouble Fed officials who have largely viewed the recent moderation in price pressures as transitory.

"We expect a little more cautious language from Fed officials on the inflation outlook going forward," said Michael Hanson, chief economist at TD Securities in New York.

Policymakers are confronted with benign inflation and a tight labor market as they weigh a third rate hike and announcing plans to start reducing the central bank's $4.2 trillion portfolio of Treasury bonds and mortgage-backed securities.

In the 12 months through June, the CPI increased 1.6 percent - the smallest gain since October 2016 - after rising 1.9 percent in May. The year-on-year CPI has been softening steadily since February, when it hit 2.7 percent.

Economists had forecast the CPI edging up 0.1 percent last month and climbing 1.7 percent from a year ago.

The so-called core CPI, which strips out food and energy costs, edged up 0.1 percent in June, rising by the same margin for three straight months. The core CPI increased 1.7 percent year-on-year after a similar gain in May.

The Fed has a 2 percent inflation target and tracks a measure which is currently at 1.4 percent.

The dollar extended losses against a basket of currencies on the data while prices for U.S. government bonds rose. Financial markets were pricing in a 47 percent chance of a 25 basis point rate hike in December, down from 55 percent before the data, according to CME Group's FedWatch program.

Fed Chair Janet Yellen told lawmakers on Wednesday that the recent cool-off in inflation was partly the result of "a few unusual reductions in certain categories of prices" that would eventually drop out of the calculation.


In June, gasoline prices fell 2.8 percent, decreasing for a second straight month. Food prices were unchanged after rising for five consecutive months. The cost of cellular phone services fell 0.8 percent, extending their decline amid price competition among service providers.

There were also decreases in airline fares and prices for apparel, household furnishings, new motor vehicles, and used cars and trucks. Rental costs rose, with owners' equivalent rent of primary residence increasing 0.3 percent after advancing 0.2 percent in May.

In a separate report, the Commerce Department said retail sales fell 0.2 percent last month, weighed down by declines in receipts at service stations, clothing stores and supermarkets. Americans also cut back on spending at restaurants and bars, as well as on hobbies.

May's retail sales were revised to show a 0.1 percent dip instead of the previously reported 0.3 percent drop. Retail sales rose 2.8 percent year-on-year in June.

Excluding automobiles, gasoline, building materials and food services, retail sales slipped 0.1 percent last month after being unchanged in May. These so-called core retail sales correspond most closely with the consumer spending component of gross domestic product.

Despite two straight months of decreasing retail sales, consumer spending likely gained steam in the second quarter after a helping to restrict economic growth to a 1.4 percent annualized rate in the first quarter.

Growth in the second quarter likely got a boost from the industrial sector of the economy. In a third report on Friday, the Fed said industrial production increased 0.4 percent in June after gaining 0.1 percent in May.

Output at the nation's factories rebounded 0.2 percent last month after falling 0.4 percent in May. Mining production shot up 1.6 percent, adding to May's 1.9 percent surge.

In the second quarter, industrial production increased at a 4.7 percent rate, driven by strong gains in mining and utilities. The Atlanta Federal Reserve is forecasting GDP to have risen at a 2.6 percent rate in the second quarter.

(Reporting by Lucia Mutikani; Editing by Chizu Nomiyama and Andrea Ricci)