WASHINGTON (Reuters) - Surging energy costs helped push U.S. consumer prices up by a sharp 0.5 percent in April and weighed on shoppers' moods in May as worries of higher future inflation grew, reports showed on Friday.

But the data showed core prices, which strip out volatile food and energy costs, rose only a moderate 0.2 percent last month and left financial markets none the wiser as to whether the Federal Reserve would hike interest rates in June.

The rise in the Fed's favorite gauge of core inflation, reported by the Commerce Department, matched Wall Street forecasts. But the 0.2 percent figure came close to being rounded up to a 0.3 percent gain that analysts say would have set off alarm bells.

"It doesn't say, 'Yes, the Fed must tighten.' But it doesn't assure them the luxury of a pause," said William Sullivan, chief economist at JVB Financial Group in Boca Raton, Florida. "Against that backdrop we have to sit back and await more information on inflation and the economy," he said.

Separately, the University of Michigan said that its index of consumer sentiment fell in May to 79.1 from April's final reading of 87.4, according to sources who saw the subscription-only report.

In addition, the university found expectations of inflation five years out rose to 3.2 percent, matching October's post-hurricane reading in a troubling sign for the Fed.

Financial markets were relieved the data, which followed unexpectedly strong readings in the popular core consumer price index, did not show greater inflation pressure.

Prices for both government bonds and U.S. stocks rose, with the blue-chip Dow Jones industrial average (^DJI - news) closing up 0.60 percent at 11,278.61 points.

TOUGH CALL

The rise in overall consumer prices in April took a big bite out of American paychecks. While the Commerce Department said personal income rose 0.5 percent last month, it dropped 0.1 percent after accounting for inflation and taxes.

While consumer spending rose a hearty 0.6 percent, it edged up just 0.1 percent on an inflation-adjusted basis.

"Even if real spending rebounds by 0.3 percent in both May and June, the quarter as a whole will see spending up just 2.4 percent," said Ian Shepherdson of High Frequency Economics. That would be less than half of the first-quarter's pace.

The mixed data underscored the tough call Fed officials are facing in deciding whether to push interest rates even higher. Inflation pressures appear somewhat elevated, but signs of cooler economic growth ahead are emerging.

In a letter to a lawmaker released on Thursday, Fed Chairman Ben Bernanke said the central bank had to be forward-looking. But he also said the Fed could keep inflation expectations low only by showing a commitment to keeping prices stable.

The Fed has raised interest rates in 16 straight meetings since mid-2004, taking benchmark overnight borrowing costs to 5 percent, and has warned that credit might have to be tightened further given inflation risks.

HAND ME THE CHALICE!

Over the past 12 months, the core price index for consumer spending has risen 2.1 percent -- the largest 12-month gain since March 2005 and just outside the Fed's perceived "comfort zone" for inflation.

"Pick your poison," wrote Ethan Harris, U.S. economist at Lehman Brothers in New York. "The Fed must choose between fighting inflation and fighting weaker growth. History suggests it will first address the inflation risks."

While Harris sees the Fed raising overnight borrowing costs to 5.25 percent at its next meeting in late June, the view is far from universal. Futures markets were pricing in about a 56 percent chance of a June rate hike after Friday's data, similar to late Thursday and levels seen for much of the past week.

Some economists expressed surprise at the degree to which Americans have kept up their spending, despite the budgetary strain of higher gasoline costs.

The Commerce Department said the personal saving rate -- saving as a percentage of disposal income -- fell to negative 1.6 percent in April, the 11th straight negative reading.

(Additional reporting by Ellen Freilich in New York)

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