* Existing home sales fall 3.2 percent in January
* Housing inventory drops 9.5 percent from year ago
* Median house price increases 5.8 percent year-on-year
WASHINGTON, Feb 21 (Reuters) - U.S. home sales unexpectedly fell in January, leading to the biggest year-on-year decline in more than three years, as a persistent shortage of houses pushed up prices and kept first-time buyers out of the market.
The National Association of Realtors said on Wednesday that existing home sales dropped 3.2 percent to a seasonally adjusted annual rate of 5.38 million units last month. It was the second straight monthly decline and reflected decreases in all four regions.
Economists polled by Reuters had forecast existing home sales rising 0.9 percent to a rate of 5.60 million units in January.
Existing home sales, which account for about 90 percent of U.S. home sales, declined 4.8 percent on a year-on-year basis in January. That was the biggest year-on-year drop since August 2014. The weakness in home sales is largely a function of supply constraints rather than a lack of demand.
"The utter lack of sufficient housing supply and its influence on higher home prices muted overall sales activity in much of the U.S. last month," said Lawrence Yun, the NAR's chief economist.
A robust labor market is boosting demand for housing, but home sales growth is being frustrated by an acute shortage of properties at the lower end. The resulting increase in house prices is sidelining some potential first-time buyers.
House price increases have outstripped wage growth, which has remained stuck below 3 percent on an annual basis despite the unemployment rate being at a 17-year low of 4.1 percent.
While the number of previously-owned homes on the market rose 4.1 percent to 1.52 million units in January, housing inventory was down 9.5 percent from a year ago. That was the lowest inventory for January on record. Supply has declined for 32 straight months on a year-on-year basis.
At January's sales pace, it would take 3.4 months to exhaust the current inventory, up from 3.2 months in December. A six-to-seven-month supply is viewed as a healthy balance between supply and demand.
MODEST SALES GROWTH
The median house price increased 5.8 percent from a year ago to $240,500 in January. That was the 71st consecutive month of year-on-year price gains.
Economists expect supply to remain tight this year, which together with rising mortgage rates could result in modest home sales growth in 2018.
The 30-year fixed mortgage rate rose to an average of 4.38 percent last week, the highest level since April 2014, from 4.32 percent in the prior week, according to mortgage finance agency Freddie Mac. Mortgage rates are increasing in tandem with U.S. government bond yields on worries about rising inflation.
The PHLX housing index was trading higher, in line with a broadly firmer U.S. stock market. The dollar was little changed against a basket of currencies while U.S. Treasury yields mostly rose.
A separate report from the Mortgage Bankers Association on Wednesday showed applications for loans to buy a home decreased 6 percent last week from a week earlier. There are also worries that caps on the deduction for mortgage interest following a recent overhaul of the tax code could hurt demand for houses.
Housing supply could improve in the coming months as data last week showed the number of homes under construction surged to near a 10-1/2-year high in January. Single-family home completions were the highest since June 2008.
First-time buyers accounted for 29 percent of transactions in January, down from 32 percent in December and 33 percent a year ago. Economists and realtors say a 40 percent share of first-time buyers is needed for a robust housing market.
In January, houses typically stayed on the market for 42 days, up from 40 days in December and down from 50 days a year ago. Forty-three percent of homes sold in January were on the market for less than a month. (Reporting by Lucia Mutikani; Editing by Paul Simao)