The number of workers filing for jobless aid fell sharply last week and a gauge of underlying labor market trends hit a 1-1/2 year low, boosting hopes the economy is on the verge of creating jobs.

Even though the report released on Thursday pointed to improvement in the battered labor market, recovery is likely to be too slow to make a huge dent in the country's 9.7 percent unemployment rate and will keep pressure on President Barack Obama for solutions.

Companies are cutting fewer jobs as sales improve. We are still not seeing the degree of job creation that is needed to meaningfully chip away at a persistently high unemployment rate, said Jim Baird, chief investment strategist for Plante Moran Financial Advisors in Kalamazoo, Michigan.

Initial claims for state unemployment benefits fell 14,000 to a seasonally adjusted 442,000, the Labor Department said. The report included annual revisions to the weekly unemployment claims seasonal factors going back to 2005.

Using the old seasonal factors, claims would have dropped only to 453,000. The prior week's data were revised to show a 5,000 rise instead of a drop. Analysts, who had expected claims to dip to 450,000, said the data was a encouraging.

This is extremely encouraging and suggests that the downtrend in the underlying pace of layoffs that was in place for most of the latter half of 2009 has resumed. That bolsters our view that labor demand is gradually improving, said Omair Sharif, an economist at RBS in Stamford, Connecticut.

U.S. stocks initially rallied on the claims data and optimism about corporate earnings after strong results from electronics retailer Best Buy Co and a higher outlook from chip maker Qualcomm.

Stocks ended little changed after European Central Bank President Jean-Claude Trichet said the International Monetary Fund or any other body should not assume the responsibilities of euro zone governments in dealing with economic problems.

The U.S. dollar rose to a 10-month high against the euro, while government bond prices fell following another lukewarm reception to a Treasury note auction.

JOB GROWTH EYED IN MARCH

The labor market has lagged the economy's recovery from its worst downturn since the 1930s and Obama has made putting Americans back to work a key priority.

Public disenchantment over high unemployment has eroded Obama's popularity and is a threat to the Democratic Party's control of the House of Representatives and the Senate in the November elections.

In testimony to the U.S. House of Representatives Financial Services Committee, Federal Reserve Chairman Ben Bernanke said the economy still needed help from the U.S. central bank's ultra-low interest rate policy.

With economic conditions gradually improving, consumers are starting to increase spending on discretionary items and boosting company profits. Analysts said the rise in profits at companies such as Best Buy bode well for the job market.

Employers are content to address increasing demand through productivity gains and better utilization of current resources. They will add workers when they have little ability to meet increasing demand through other means, Plante Moran's Baird.

Payrolls are expected to grow this month as the government steps up hiring for the 2010 census. About 8.4 million jobs have been lost since the recession started in December 2007.

Our call is for a large increase of about two hundred thousand for March payrolls, said Dana Saporta, an economist at Stone & McCarthy Research Associates in Princeton, New Jersey. That will be a bounce back from weather-related job losses in February and will also account for the hiring of the majority of workers for the 2010 census.

Last week, the four-week moving average of new claims fell to its lowest level since September 2008.

While claims last week fell into a range that analysts reckon signals labor market stability, they said applications for benefits would have to drop even further to be consistent with sustainable private job growth.

The number of people still receiving benefits after an initial week of aid in the week ended March 13 fell to its lowest since December 2008. The decline in these continuing claims, however, lagged market expectations.

(Editing by Chizu Nomiyama)

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