Retail sales and industrial output eked out smaller-than-expected gains in August, according to data on Friday that kept in place expectations the Federal Reserve will cut interest rates next week.

The reports showed signs of economic softness but the picture was not uniformly bleak. A drop in gasoline prices helped curb the sales retail gain, but helped hold a gauge of consumer confidence steady in early September.

"The confidence number was largely in line with expectations and we are still seeing a trend downwards off the high at beginning of the year, said Matthew Strauss, currency strategist, RBC Capital Markets in Toronto. "After this morning's retail numbers and the disappointing unemployment numbers last week the worry remains that we could see a sharp slowdown in the U.S."

Retail sales rose a slim 0.3 percent last a month, the Commerce Department said. When motor vehicles and parts were stripped out, retail sales fell 0.4 percent, the sharpest drop since September 2006.

The Fed said industrial production rose 0.2 percent, propped up by a surge in utility output that managed to offset drops at factories and mines.

Wall Street economists had expected retail sales to gain 0.4 percent overall and 0.2 percent with cars stripped out, and they had looked for industrial output to rise 0.3 percent.

The weak readings weighed on stocks and the dollar, and pushed prices for U.S. government bonds higher as traders bet the data made it more likely the Fed would cut interest rates by a relatively hefty half-percentage point when policy-makers meet on Tuesday.

The data followed a report a week ago that showed jobs declined in August for the first time in four years and job growth in June and July was softer than first thought.

"If you combine the consumer side of the equation with the employment side we got a week ago, you now see some chinks in the armor of the economy," said Kevin Flanagan, a fixed income strategist at Morgan Stanley in Purchase, New York.


Economists expect the Fed to cut benchmark overnight rates by at least a quarter-percentage point next week to buffer the economy from a prolonged housing slump and housing-related stress in credit markets.

Some analysts had looked to other recent relatively strong retail sale reports as evidence the economy remained healthy outside of housing.

Falling gasoline prices pulled the government's measure of August gasoline sales down sharply, weighing on the overall retail sales reading, and July's sales gain was revised up to 0.5 percent from 0.3 percent.

Still, sales excluding cars and gasoline were down 0.1 percent, the weakest showing since April.

Purchases of motor vehicles, which make up around one-fifth of all sales, rose 2.8 percent, while gasoline sales fell 2.4 percent, building materials sales dropped 1 percent, and sales department stores and clothing stores slipped slightly.


Another government report showed that U.S. import prices fell unexpectedly in August by 0.3 percent, the first decline since the start of the year as petroleum costs also retreated.

Excluding a 1.3 percent drop in imported petroleum prices, import prices declined 0.1 percent last month, the Labor Department said. It was the first fall in overall import prices, or in the cost of imported petroleum, since January.

Analysts polled by Reuters had forecast a 0.3 percent rise in import prices in August. Export prices increased 0.2 percent, matching expectations.

A different report showed consumer sentiment holding steady overall.

The Reuters/University of Michigan Surveys of Consumers said its preliminary September figure on consumer sentiment was 83.8, slightly above a median forecast of 83.4 and the final August reading of 83.4.

Meanwhile, a separate Commerce Department report showed the U.S. current account deficit narrowed in the second quarter to $190.8 billion, roughly in line with expectations, from an upwardly revised gap of $197.1 billion in the first quarter.

The current account, the broadest measure of trade, includes goods, services and income flows.

The second-quarter current account deficit equaled 5.5 percent of gross domestic product, down from 5.8 percent in the first quarter, the Commerce Department said.

(Additional reporting by Alister Bull and Ellen Freilich)