May 16 (Bloomberg) -- Housing starts in the U.S. unexpectedly rose last month, while building permits dropped to the lowest in almost a decade, signaling the increase in construction may be short lived.

Builders broke ground on new dwellings at an annual rate of 1.528 million in April, a 2.5 percent increase from a revised 1.491 million rate the prior month that was weaker than previously estimated, the Commerce Department said today in Washington. Building permits slumped 8.9 percent to a 1.429 million pace, the fewest since June 1997.

Some buyers are delaying purchases in anticipation of a drop in home prices as stricter lending guidelines and subprime mortgage defaults add to the glut of unsold properties, economists said. The housing recession remains the biggest threat to Federal Reserve forecasts of ``moderate'' economic growth.

``Housing will continue to subtract from economic growth, but not as much as it did in past quarters,'' Sal Guatieri, senior economist at BMO Capital Markets in Toronto, said before the report. ``There's still a glut of homes on the market. Housing will become better balanced later this year as demand and supply adjust.''

Starts were projected to fall to a 1.48 million pace in April, from an originally reported 1.518 million the previous month, according to the median forecast of 80 economists polled by Bloomberg News. Estimates ranged from 1.385 million to 1.59 million.

The decline in permits was the biggest since February 1990. Permits, a sign of future construction, were estimated to drop to 1.52 million from 1.564 million, according to the median forecast.

Single-Family

Construction of single-family homes rose 1.6 percent last month to a 1.225 million rate, the most this year, today's report showed. Work on multifamily homes, such as townhouses and apartment buildings, increased 6.3 percent to an annual rate of 303,000.

The increase in housing starts was led by a 31 percent jump in the Northeast and a 7.8 percent gain in the West. Starts fell 14 percent in the Midwest and were down 0.1 percent in the South.

The number of homes under construction fell 0.5 percent to a 1.188 million pace, today's report showed. Housing completions dropped 5.8 percent to an annual rate of 1.523 million.

The number of housing units authorized, but not yet started, decreased 6.1 percent to 200,900, today's data showed.

A report yesterday showed builders became more pessimistic this month. The National Association of Home Builders/Wells Fargo sentiment index fell to 30 from 33 in April. The reading matched September's figure as the lowest since 1991. Readings below 50 mean most respondents view conditions as poor.

Subprime

The failure of at least 50 subprime lenders, who make loans to consumers with poor or limited credit history, has raised concern more homes will be thrown back on the market as foreclosures rise.

So far, there is little evidence that the subprime crisis is affecting other types of mortgage lending. More than half the lenders surveyed by the Fed last month said they tightened credit standards on subprime mortgages, according to the central bank's quarterly survey of senior loan officers published May 14.

Still, only 15 percent of respondents said they also restricted credit to better-rated borrowers, the Fed report said.

Residential investment, which subtracted 1 percentage point from economic growth in the first quarter, is likely to remain weak in coming quarters, economists said. Fed policy makers have looked beyond housing to forecast the economy will keep expanding.

`Ongoing' Adjustment

``The adjustment in the housing sector is ongoing,'' Fed policy makers said in a May 9 statement announcing they'd kept the benchmark interest rate unchanged at 5.25 percent. ``Nevertheless, the economy seems likely to expand at a moderate pace,'' they also said.

Toll Brothers Inc., the largest U.S. luxury home builder, said May 9 that profit in the quarter ended April 30 was lower than earlier predicted, and the company will miss its full-year earnings forecast.

``Twenty months into this housing downturn, we continue to face difficult conditions in most of our markets,'' Chief Executive Officer Robert Toll said in a statement.

The National Association of Realtors last week slashed estimates for new and existing home sales for this year and 2008. The group also said prices of existing homes will fall more than its prior forecast, and the median price for new homes will decline this year for the first time since 1991.

To contact the reporter on this story: Shobhana Chandra in Washington schandra1@bloomberg.net

Last Updated: May 16, 2007 08:30 EDT