By Alister Bull

WASHINGTON (Reuters) - Soaring energy costs pushed U.S. producer prices up sharply last month and housing starts fell to 17-year low, according to data on Tuesday that spotlighted the dilemma the Federal Reserve's faces in trying to tackle weak economic growth amid high inflation.

Producer prices rose by a larger-than-expected 1.4 percent in May as energy prices leaped 4.9 percent, but core inflation at the producer level slowed as forecast, as car prices sank, a Labor Department report showed.

The U.S. dollar slipped on the tame core inflation data and speculation the Federal Reserve will be in no hurry to raise interest rates while economic growth remains fragile.

Similar thinking helped U.S. government bond yields to fall, while Wall Street stocks slipped on worry over bank earnings.

"We have very weak housing with no sign yet of a turnaround and meanwhile rising food and energy costs are boosting wholesale inflation," said Gary Thayer, senior economist at Wachovia Securities in St. Louis.

Economists had expected the Producer Price Index, a gauge of prices paid at the farm and factory gate, would rise 1.0 percent after increasing 0.2 percent in April.

Over the 12 months through May, producer prices have risen 7.2 percent, marking the eighth consecutive month in which prices rose more than 6.0 percent on a year-on-year basis, the longest stretch since the stagflationary period that ended in 1982, a Labor department official said.

"There is nothing here to breed complacency at the Fed or for that matter (investors') risk appetite," said Alan Ruskin, chief international strategist, at RBS Global Banking and Markets in Greenwich, Connecticut.