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Richmond Federal Reserve Bank President Jeffrey Lacker, an inflation hawk, said inflation risks have risen in the last six months, potentially warranting some form of monetary tightening before the end of the year.

"Rate hikes by year end are certainly a possible outcome given what we see with momentum in economic growth and given how inflation risks seem to have evolved," Lacker, an inflation hawk, told reporters after a speech.

In contrast, Cleveland Fed Bank President Sandra Pianalto, speaking in Rome, said the Fed should keep its federal funds target rate very low for a long while to come, and complete its $600 billion bond purchase program as scheduled

Pianalto said she saw no evidence that sharp rises in food and energy prices would lead to lasting inflation, though the Fed is watching for any signs of an unanticipated spillover.

"My outlook for economic growth and inflation assumes that we complete our asset purchase program as originally scheduled, and keep our federal funds rate target at exceptionally low levels for an extended period," Pianalto said.

The Fed's bond purchases are scheduled to end in June.

"I don't expect recent rises in food and energy prices to cause a broad spillover into a wide array of consumer prices, or in other words a lasting increase in inflation," said Pianalto. She said underlying inflation would rise only gradually toward 2 percent by 2013.

Lacker was not as sanguine. He said the Fed should consider selling some of its mortgage bond holdings potentially early in its exit strategy.

"The housing finance market can easily withstand a substantial liquidation of our MBS holdings," Lacker said. "I don't think we should fear tanking the housing market

In response to the crisis and the ensuing recession, the Fed has bought well over $2 trillion in mortgage and government bonds. Lacker favors a return to holding only Treasuries, since he worries that the housing bond buys blurred the line between monetary and fiscal policy.

The U.S. economy expanded 3.1 percent in the fourth quarter, a solid clip but not enough for a country still digging its way out of a deep hole. U.S. unemployment has come down rather rapidly in recent months, but remains at an elevated 8.8 percent.

(Additional reporting by Gavin Jones in Rome; Editing by Neil Stempleman)

Retailers such as Costco Wholesale Corp, BJ's Wholesale Club Inc and Limited Brands Inc reported much stronger-than-expected results, while Gap Inc was one of a handful of chain to fall short of expectations.

"The retailers that have the right assortment are still doing well," said Tom Clarke, director of AlixPartners' global retail practice.

U.S. retailers overall had been expected to show their first same-store sales decline since August 2009, in part because Easter falls three weeks later than last year, which delays some spring purchases.

Chilly weather and rising inflation also probably hurt discretionary spending.

Analysts were expecting a tally of 25 major retailers to show a drop of 0.7 percent in sales at stores open at least a year, according to Thomson Reuters. Of the first 17 retailers to report sales, 11 beat expectations.

While unemployment remains high, it has edged down in recent months, giving some people more wiggle room to shop.

"This March I spent more than last March because I was searching for a job last March," said Jane Marcinkiewicz. A 37-year-old mother of two from New York's Harlem neighborhood, she works part-time at a department store.

Gap was a notable outlier. Its same-store sales fell 10 percent, or 3 percentage points more than expected. The clothing retailer blamed some of the weakness on the earthquake in Japan, where it has more than 150 stores.

Gap expects the problems in Japan to cut first-quarter earnings by about 4 cents per share, bringing them below the analysts' average estimate of 44 cents. The company's shares fell 3.3 percent to $22.30 in premarket trading.

LATEST EASTER IN DECADES

This year's Easter is the latest since 1943, which means holiday promotions will last all spring long, noted National Retail Federation Chief Executive Officer Matthew Shay.

With Easter falling on April 24 this year, 20 days later than in 2010, the bulk of sales of spring clothing, candy and other goods were probably delayed until April.

At the same time, shoppers have already started to pay more for groceries and gasoline, reducing the amount left for other purchases.

"Now we're entering the period when retailers have to decide whether to increase prices or reduce gross margins," Clarke said. "That risk is now here."

* The Labor Department releases first-time claims for jobless benefits for the week ended April 2 at 1230 GMT. Economists in a Reuters survey forecast a total of 385,000 new filings compared with 388,000 in the previous week.

* General Electric (GE.N) is set to announce on Thursday that it will build America's largest photovoltaic panel factory, with the goal of becoming a major player in the market, the New York Times reported.

* ICSC will release chain store sales for March versus a year ago. In the previous month, sales rose 4.2 percent versus a year earlier.

* Pharmaceutical company SuperGen Inc (SUPG.O) plans to buy privately-held biotechnology firm Astex Therapeutics Limited, the companies said on Wednesday.

* Global investment bank Goldman Sachs Group (GS.N) is seeking to buy the 55 percent of its Australian and New Zealand joint venture that it does not already own, the company said in a statement on Thursday.

* Bed Bath and Beyond Inc (BBBY.O) shares jumped 6.3 percent late on Wednesday after the company reported its results.

* The European Central Bank is poised to raise interest rates from a record low 1.0 percent on Thursday, with more hikes likely to follow. However, fearful of heaping more pain on the euro zone's stragglers, the ECB is expected to give few clues about when the next move will come.

* The Bank of England is almost certain to ignore criticism that it has gone soft on inflation and leave interest rates at a record low on Thursday due to uncertainty about the strength of Britain's fragile recovery.

* Portugal's financial sector can expect some relief after the caretaker government decided to seek financial aid after months of what many economists said was a refusal to acknowledge economic reality.

* Brent crude fell after five straight days of gains, slipping below $122 a barrel on concern that rising prices will hurt demand from the world's top oil consumers the United States and China.

* Japan's Nikkei average .N225 closed 0.1 percent higher on Thursday, while the FTSEurofirst 300 .FTEU3 index of top European shares was up 0.3 percent, led higher by financials after Portugal said it would seek financial aid.

* On Wednesday, the Dow Jones industrial average .DJI rose 32.85 points, or 0.27 percent, to close at 12,426.75. The Standard & Poor's 500 Index .SPX gained 2.91 points, or 0.22 percent, to 1,335.54. The Nasdaq Composite Index .IXIC advanced 8.63 points, or 0.31 percent, to 2,799.82.

(Reporting by Atul Prakash; Editing by Hans Peters)

ECB policymakers have been out in force in recent weeks flagging a rise that will be their first since July 2008. All but four of 80 economists polled by Reuters last week expected it to raise rates by 25 basis points.

The policy making Governing Council began meeting at 0700 GMT. Its rate decision -- due at 1145 GMT -- will come less than 24 hours after Portugal announced it was seeking European Union support, a decision long expected by financial markets.

Lisbon's announcement has not changed market expectations for a rise in rates but ECB President Jean-Claude Trichet's news conference at 1230 GMT will be eyed for signs markets are still justified in expecting more than one further move this year.

The ECB is concerned that firm oil prices -- near 2-1/2 year highs -- could boost inflation expectations but the Frankfurt-based bank must be careful not to hurt the euro zone's struggling peripheral economies by jacking up rates fast.

Trichet, who shocked markets last month by signaling an April rate hike, will not want to heighten expectations for further rises.

Markets are already pricing in two further rises in the main refinancing rate to 1.75 percent by the year's end.

"I think it is the start of a series but I think Trichet ... will try to temper any market expectations, which are already priced in, of further hikes to come," said Lloyds interest rate strategist Eric Wand.

Bank-to-bank lending rates have already risen on rate hike expectations. The three-month Euribor rate has risen 25 basis points since the start of the year and hit its highest level since June 2009 on Wednesday.

With Greece, Ireland and Portugal all being forced to rely on international bailouts and struggling to generate growth, the rate hike will carry risks. But the central bank believes it can tighten policy slowly enough to avoid doing serious damage.

It feels re-establishing its inflation-fighting credibility is more important to avert an upward spiral of prices and wages. Euro zone inflation rose to 2.6 percent last month, above the ECB's medium-term target of just below 2.0 percent.

"Typically, rate expectations move very quickly once the hiking cycle starts and I think Trichet knows the recovery is still quite fragile on the euro area aggregate -- the periphery is still struggling," said Nomura economist Jens Sondergaard.

"It's a tricky act for them. They don't want to signal that this is the start of a hiking cycle. On the other hand, I don't think they can be too complacent on inflation at the moment."

The euro slipped from recent peaks ahead of the meeting.

"The euro has rallied considerably on the ECB rate hike view but it may be the case of buy the rumor sell on the fact," said Koji Fukaya, chief FX strategist at Credit Suisse.

With the clock ticking toward a midnight Friday deadline, Obama met at the White House with Republican House of Representatives Speaker John Boehner, and Senate Majority Leader Harry Reid, a Democrat.

Republicans and Democrats have said negotiators were making progress on a compromise that would fund government operations past Friday's deadline and keep more than 800,000 workers in their jobs.

The two parties remain at odds over about $10 billion in spending cuts, according to a Democratic aide.

The final size of the cuts for the rest of this fiscal year will likely end up closer to the $33 billion Democrats have agreed on than the Republicans' $40 billion target, the aide said.

A government shutdown, the first in 15 years, would ripple through an economy still recovering from the worst recession since the 1930s. Obama urged both parties to compromise and said failure to reach agreement would hurt the economy just as it was gaining momentum.

"Companies don't like uncertainty, and if they start seeing that suddenly we may have a shutdown of our government, that could halt momentum, right when we need to build it up," he said at a town-hall style event in Pennsylvania earlier.

A FAILURE OF LEADERSHIP

Boehner criticized Obama for a failure of leadership in the budget showdown and said the House on Thursday would consider a short-term bill to cut an additional $12 billion in spending and fund the government for another week while negotiations continued.

Obama and many of his fellow Democrats oppose another short-term extension. Some Republicans said it could serve as a legislative vehicle for a final budget deal.

"That's not just bad policy, that's a fantasy," Reid said of the temporary extension. He said it would only put off the tough choices needed to reach a deal on the budget.

The White House painted a bleak picture of the potential impact of a government shutdown, saying it could hurt recovery in the housing market and spark reactions ranging from the closure of national parks to the suspension of the weekend cherry blossom parade in the capital.

A senior administration official told reporters the processing of some tax refunds and audits, as well as small business loans would be halted, and operations of the Federal Housing Administration would be curbed.

"Having the FHA not be able to guarantee loans during this period will have a significant impact if we shut down on the housing market, which is very fragile," the official said.

The investment firm Goldman Sachs estimated a government shutdown lasting more than a week could cost the economy $8 billion in missed federal spending, dragging down growth.