U.S. consumer spending rose at its fastest in nearly 8 years in August, but a persistently weak labor market and below-forecast expansion in manufacturing in September could hamper a nascent economic recovery.

The latest batch of mixed data released on Thursday was yet another indication that while growth probably resumed in the third quarter after a prolonged recession, staying on a steady path could prove to be a challenge.

While the economy is emerging from recession, recovery is likely to proceed in fits and starts rather than a continuous upward march. This uneven pattern of growth is what we've been seeing for the last several weeks, said Zach Pandl, an economist of Nomura Securities International in New York.

The U.S. Commerce Department said personal spending jumped 1.3 percent in August, the largest gain since October 2001, after a 0.3 percent rise in July. Spending was up for a fourth straight month and beat expectations for a 1.1 percent rise.

Spending was likely boosted by a government-sponsored discount scheme for new motor vehicle purchases, dubbed cash for clunkers, which ended in August.

Optimism over the rise in spending, which normally accounts for over two-thirds of U.S. economic activity, was clouded by reports showing more people than expected applied for first-time unemployment benefits last week and manufacturing activity in September, although growing, missed expectations.

A report from the Labor Department showed initial claims for state unemployment insurance rose to 551,000 last week from 534,000 in the previous week, more than analysts' expectations for 530,000. It was the first rise in three weeks.

Separately, the Institute for Supply Management said its index of national factory activity eased to 52.6 in September from 52.9 in August -- below expectations for a reading of 54.

The disappointing data dealt U.S. stocks <.DJI> <.IXIC> <.SPX> their worst one-day loss in three months, as major indices fell between 2 and 3 percent.

Government bond prices rallied, with the yield on the 30-year bond dropping to a five-month low.

Bond yields move inversely to prices. Government bonds are seen as a safe haven in times of economic turmoil.

A lot of investors are trying to figure out how much the economy will slow after the surge in spending we saw in the cash for clunkers program. The question is, did that spending borrow from the future or will the gains be sustained? said Gary Thayer, strategist at Wells Fargo in St. Louis, Missouri.

HOUSING MARKET HEALING

Reports from automakers indicated vehicle sales slumped in September, giving up some of the ground gained under the cash for clunkers scheme.

Detroit-based U.S. automakers expect the domestic seasonally adjusted annualized rate of auto sales to come in at 9 million to 9.5 million vehicles in September.

GM and Chrysler sales fell well over 40 percent in September, although Ford's were down only 5 percent.

Despite the disappointing manufacturing and jobless claims reports, other segments of the U.S. economy continue to heal.

Pending sales of existing homes surged 6.4 percent in August, notching a seventh consecutive month of gains, the National Association of Realtors said. The rise drove the industry group's sales gauge to its highest since March 2007.

Housing is at the heart of the United States' worst recession in 70 years. The wealth of most Americans is tied to their homes and a recovery in the battered housing market could encourage them to spend more and help support economic growth.

Analysts fear weak domestic spending could stall the recovery. While most agree the economy has started to heal, many worry that high unemployment and the resulting pressure on incomes might translate into only lethargic growth.

Personal income rose 0.2 percent in August after rising 0.2 percent in July, the Commerce Department said, whereas real disposable income inched up only 0.1 percent.

Given the weak incomes position, saving declined for a third straight month to an annual rate of $324.1 billion, with the saving rate falling to 3 percent from 4 percent in July.

Despite the rise in weekly jobless claims, the underlying trend remains toward gradual improvement in the labor market.

The four-week moving average of new claims fell to 548,000, the lowest since 547,000 reported in the week ending January 24, the Labor Department report showed.

Continued claims of workers still collecting jobless aid after an initial week of benefits fell to 6.09 million in the latest week from 6.16 million in the prior week. That was below market expectations for 6.16 million.

The reality is that the lack of improvement in the labor markets will continue to inhibit a robust recovery, and will presumably cause the Fed to keep rates low, said Keith Springer, president of Capital Financial Advisory Services in Sacramento, California.

The Labor Department will release September's U.S. employment report on Friday. Analysts polled by Reuters expected nonfarm payrolls to have fallen 180,000 after dropping 216,000 in August. They expect the unemployment rate to rise to a new 26-year high of 9.8 percent from 9.7 percent in August.

Goldman Sachs, however, boosted its forecast for September job losses to 250,000 from its previous estimate of 200,000 after it said recent data pointed to a weaker reading. (Additional reporting by Emily Kaiser in Washington, David Bailey in Detroit and Ellen Freilich and Chris Reese in New York; Editing by James Dalgleish)

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