By Lucia Mutikani

WASHINGTON (Reuters) - U.S. consumer prices likely increased by the most in 14 months in August amid a surge in the cost of gasoline, but an expected moderate rise in underlying inflation could encourage the Federal Reserve to keep interest rates on hold next Wednesday.

The consumer price report from the Labor Department on Wednesday will be published a week before the Fed's rate decision. It would follow on the heels of data this month showing an easing in labor market conditions in August.

Prices outside the volatile food and energy categories, the so-called core inflation, were likely tame for a third straight month, with the year-on-year increase forecast to have been the smallest in nearly two years.

"It's going to be a mixed picture, with headline inflation picking due to higher gasoline prices and core inflation remaining contained," said Sam Bullard, a senior economist at Wells Fargo in Charlotte, North Carolina. "The Fed would be encouraged by the continued moderation trend in core inflation, but it's still too high."

The consumer price index likely increased by 0.6% last month, according to a Reuters survey of economists. That would be the largest gain since June 2022 and would follow two straight monthly advances of 0.2%.

Gasoline prices accelerated in August, peaking at $3.984 per gallon in the third week of the month, according to data from the U.S. Energy Information Administration. That compared to $3.676 per gallon during the same period in July.

Food prices are expected to have continued rising at a moderate pace. In the 12-months through August, the CPI is forecast to have jumped 3.6% after climbing 3.2% in July. While that would mark the second straight month of a pick up in annual inflation, year-on-year consumer prices have come down from a peak of 9.1% in June 2022. The Fed has a 2% inflation target.

The core CPI, excluding food and energy, is forecast to have increased 0.2% for a third straight month amid declining prices for used cars and trucks. Though rents continued to increase, the trend is cooling and a further slowdown is expected as more apartment buildings come on the market.

In the 12 months through August, the core CPI is forecast to have increased by 4.3%. That would be the smallest year-on-year rise since September 2021 and would follow a 4.7% gain in July.

Financial markets overwhelmingly expect the Fed to leave its policy rate unchanged next Wednesday, according to CME Group's (NASDAQ:CME) FedWatch tool. Since March 2022, the U.S. central bank has raised its benchmark overnight interest rate by 525 basis points to the current 5.25%-5.50% range.

Details on services inflation could, however, leave the door open for a rate hike in November. Airline fares were unlikely to repeat the steep declines recorded in June and July. The cost of hotel and motel rooms likely rebounded amid strong summer demand. That probably kept services inflation, excluding shelter, elevated last month.

Some economists believe inflation risks are tilted to the upside, citing rising insurance costs, especially for motor vehicles. Health insurance costs in the CPI report are expected to rise from October after the Labor Department's Bureau of Labor Statistics, which compiles the report, recently announced changes to its methodology for measuring these costs.

"Under our new forecast for CPI health insurance, we continue to expect core CPI and especially core services ex. housing inflation to accelerate in the coming months but to slow more quickly next spring," said Ronnie Walker, an economist at Goldman Sachs, in a note.

A strike in the automobile sector could disrupt supply chains and boost motor vehicle prices if it lasted more than a month, economists said. United Auto Workers members last month voted overwhelmingly in favor of authorizing a work stoppage at General Motors (NYSE:GM), Ford Motor (NYSE:F) and Stellantis (NYSE:STLA) , if an agreement over wages and pension plans was not reached before the current four-year contract expires on Sept. 14.

"While we all appreciate that the house and renting story is going to be an increasingly important theme that will help suppress core inflation in coming months and quarters, I'm just a little bit nervous because of these factors," said James Knightley, chief international economist at ING in New York.  

(Reporting Lucia Mutikani; editing by Timothy Gardner)