U.S. consumer spending rose moderately in October, while the annual increase in inflation was the smallest since early 2021, signs of cooling demand that could further strengthen expectations that the Federal Reserve's interest rate hiking campaign was over.

Consumer spending, which accounts for more than two-thirds of U.S. economic activity, increased 0.2% last month after an unrevised 0.7% gain in September, the Commerce Department's Bureau of Economic Analysis said on Thursday. Economists polled by Reuters had forecast spending gaining 0.2%.

The moderation in consumer spending followed a brisk growth pace in the third quarter and reflects the impact of higher borrowing costs and depleted excess savings among low-income households. Though wages remain elevated, the pace of increase has slowed from earlier in the year as the labor market eases.

Millions of Americans resumed student loan repayments last month, which could crimp spending next year.

Fears that the economy could slide into recession in early 2024 could see households reluctant to spend and instead build their savings. So far, the economy has defied predictions of a recession, growing at a robust 5.2% annualized pace in the third quarter, the fastest in nearly two years.

Growth estimates for the fourth quarter are mostly below a 2% rate. Most economists expect the economy to settle into a period of very slow growth, and avoid an outright recession.

Inflation as measured by the personal consumption expenditures (PCE) price index was unchanged in October after climbing 0.4% in September.

In the 12 months through October, the PCE price index increased 3.0%. That was the smallest year-on-year gain since March 2021 and followed a 3.4% advance in September.

Excluding the volatile food and energy components, the PCE price index gained 0.2% last month, after rising 0.3% in September. Monthly inflation readings of 0.2% on a sustainable basis are needed to bring inflation back to the U.S. central bank's 2% target, according to economists.

The so-called core PCE price index advanced 3.5% on a year-on-year basis in October, after increasing 3.7% in September.

The Fed tracks the PCE price indexes for monetary policy.

Subsiding demand and inflation pressures have raised optimism that the Fed is probably done raising interest rates this cycle, with financial markets even anticipating a rate cut in mid-2024. Since March 2022, the central bank has raised its benchmark overnight interest rate by 525 basis points to the current 5.25%-5.50% range.

Easing labor market conditions were reinforced by a separate report from the Labor Department on Thursday showing initial claims for state unemployment benefits increased 7,000 to a seasonally adjusted 218,000 for the week ended Nov. 25. Economists had forecast 226,000 claims for the latest week.

Last week's claims data included the Thanksgiving Holiday. Claims tend to be volatile around holidays. Still, the labor market is cooling in tandem with overall demand in the economy.

The number of people receiving benefits after an initial week of aid, a proxy for hiring, increased 86,000 to 1.927 million during the week ending Nov. 18, the claims report showed. The so-called continuing claims resumed their upward trend, which started since mid-September, after a brief interruption in the prior week.

A combination of loosening labor market conditions and difficulties adjusting the data for seasonal fluctuations following an unprecedented surge in applications for jobless benefits early in the COVID-19 pandemic have pushed continuing claims higher.

(Reporting by Lucia Mutikani, Editing by Chizu Nomiyama)