U.S. consumer spending pauses, but rising confidence offers hope

(Adds details, analyst comments, background)

* Consumer spending dips 0.1 percent in July

* Inflation-adjusted spending falls 0.2 percent

* Savings increase to highest level since December 2012

* Consumer confidence vaults to seven-year high in August

By Lucia Mutikani

WASHINGTON, Aug 29 (Reuters) - U.S. consumer spending fell in July for the first time in six months, but confidence among households hit a seven-year high in August, suggesting the retrenchment would be temporary.

Another report on Friday showed a sharp acceleration in factory activity in the Midwest this month, a further sign the economy remains on solid ground.

"The weakness in spending will quickly subside this fall as consumer confidence is supported by record highs in the stock market, rising housing prices and improving labor market conditions," said Michael Woolfolk, global markets strategist at BNY Mellon in New York.

Consumer spending, which accounts for more than two-thirds of U.S. economic activity dipped 0.1 percent last month after rising 0.4 percent in June, the Commerce Department said. Economists had expected a 0.2 percent gain.

When adjusted for inflation, it fell 0.2 percent.

Spending was weighed down in part by a decline in automobile purchases and a weather-related drop in demand for utilities.

The weakness in spending prompted some economists to lower their forecasts for third-quarter economic growth. Goldman Sachs (NYSE: GS-PB - news) cut is projection by two-tenths of a percentage point to a 3.1 percent annual rate. Forecasting firm Macroeconomic Advisers cut its forecast by a similar amount, taking it down to 2.9 percent.

The economy grew at a 4.2 percent annual rate in the second quarter, with consumer spending advancing at a 2.5 percent rate.

Despite the tempering of expectations, economists expect another relatively sturdy quarter given the rise in confidence, a strengthening labor market, and gains in manufacturing and business spending. Housing and government spending are also on the mend.

The Thomson Reuters/University of Michigan's consumer sentiment index increased to 82.5 in August, the highest level since July 2007, from 81.8 in July, a separate report showed.

"We expect growth to remain on a firmer trajectory as improving economic fundamentals continue to reassert themselves," said Gennadiy Goldberg, a U.S. economist at TD Securities in New York.

In a third report, the Institute for Supply Management-Chicago said its barometer of Midwest factory activity shot up to 64.3 this month from 52.6 in July. It was the biggest monthly point gain since July 1983 and indicated continued strength.

U.S. stocks, which hit record highs in recent sessions, traded slightly higher, while the dollar firmed against a basket of currencies. Prices for U.S. Treasury debt were little changed.

SAVINGS RISE

Consumer spending has been sluggish as households have opted to save extra money from steady income gains. Income rose for a seventh straight month in July, while savings hit their highest level since December 2012.

High savings, combined with declining debt burdens, should put consumers in better position to spend.

"Consumers could be positioned to trim savings and tap credit to fuel stronger spending, although it remains to be seen," said Jim Baird, chief investment officer at Plante Moran Financial Advisors in Kalamazoo, Michigan.

Weak consumer spending left inflation muted in July, giving the Federal Reserve room to keep overnight interest rates near zero for some time.

Consumer prices edged up 0.1 percent, the smallest rise since February, the spending report showed. In the 12 months through July, it was up just 1.6 percent.

Excluding food and energy, prices also rose 0.1 percent, with the 12-month reading holding at 1.5 percent.

The Fed targets inflation of 2 percent. (Reporting by Lucia Mutikani; Additional reporting by Sam Forgione and Dan Burns in New York; Editing by Tim Ahmann and Paul Simao)