WASHINGTON (Reuters) - The number of workers filing new claims for jobless aid surged last week to the highest since October 2005, and consumer spending softened at the end of last year, according to reports on Thursday that heightened worries about a possible recession.

The Labor Department said initial claims for state unemployment benefits jumped by 69,000 last week to 375,000. It was the biggest jump since September 2005 and the highest since October of that year, just after Hurricane Katrina devastated the U.S. Gulf Coast.

Separately, the Commerce Department said consumer spending edged up by 0.2 percent in December after a 1 percent gain in November, just enough to keep pace with inflation.

U.S. stock markets opened down sharply on economic concerns, while the value of the dollar dropped and prices for government debt rose as traders concluded the reading on the jobs market made further aggressive interest rate cuts from the Federal Reserve more likely.

However, the Labor Department said the Martin Luther King Jr. Day holiday last Monday may have made it difficult to adjust the data for seasonal variations, and analysts agreed.

"The holiday was a week later than in 2007, and there is a consistent pattern of seasonal adjustment problems when federal holidays shift in this way," said Ian Shepherdson, chief U.S. economist at High Frequency Economics in Valhalla, New York.

The four-week average of weekly claims, which helps smooth out fluctuations to expose the underlying layoffs trend, increased to 325,750 last week from 315,500 the week before.

Jobless claims had been on a declining path, one of the few bright signs suggesting the U.S. economy was not deteriorating sharply. While economists took the latest data with a grain of salt, financial markets were not so certain.

Interest-rate futures prices shifted to show about a 90 percent implied chance that the Fed, which has cut benchmark borrowing costs by 1.25 percent points over the past nine days, would lower them by a further half point in March.

SPENDING SOFT, BUT INCOME SOLID

The data on consumer spending was incorporated into a report on Wednesday that showed the economy nearly stalled in the fourth quarter, advancing at just a 0.6 percent annual pace to close out the weakest year of growth since 2002.

Thursday's report also showed that personal income in December rose 0.5 percent. Both the spending and income figures were a touch higher than economists had expected.

However, a key measure of inflation contained in the report showed prices, both overall and excluding food and energy, marched up 0.2 percent, leaving consumers treading water.

Last year, the price index for personal spending rose 3.5 percent, while the core index climbed 2.2 percent, a bit outside of the range most Fed officials are comfortable with.

"Inflation was quite high in December ... Consumers are squeezed by food and energy prices and worries of recession, credit costs are going up and housing prices are going down," said Kurt Karl, chief economist at Swiss Re in New York.

For all of 2007, consumer spending grew by 5.5 percent, the weakest growth since a 4.8 percent increase in 2003.

A separate report from the Labor Department showed U.S. employment costs rose by 0.8 percent in the fourth quarter, keeping the year-on-year gain at 3.3 percent.

(Additional reporting by Alister Bull; Editing by James Dalgleish)

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