While other data on Tuesday showed continued weakness in manufacturing, economists said that was unlikely to have much impact on the U.S. central bank's decision whether to raise rates for the first time in nearly a decade.

"Looking at the data alone, Fed officials will probably say, yes, the conditions are right to tighten. If it were not for the increase in financial stress, they would be tightening this month," said Jeremy Lawson, chief economist at Standard Life Investments in Edinburgh.

The Commerce Department said retail sales excluding automobiles, gasoline, building materials and food services increased 0.4 percent in August after an upwardly revised 0.6 percent increase in July.

These so-called core retail sales, which correspond closely to the consumer spending component of gross domestic product, provided the latest sign of sturdy economic momentum and suggested the recent stock market sell-off had little immediate impact on U.S. household spending.

U.S. stocks were trading higher and the dollar strengthened against a basket of currencies. Prices for U.S. government bonds fell.

The Fed's policy-setting committee meets on Wednesday and Thursday against the backdrop of a tightening U.S. labor market, low inflation and slowing global growth. The Fed's benchmark overnight interest rate has remained near zero since December 2008.

U.S. financial markets have sharply dialed down expectations of a rate hike in the wake of the recent volatility in global equity markets. Traders are now pricing in a 27 percent probability of a rate hike on Thursday.

"The Fed should be more reassured about the underlying pace of demand growth with this sales report and, at the margin, we think this report takes us another step closer to a rate increase on Thursday," said John Ryding, chief economist at RDQ Economics in New York.

MANUFACTURING DRAGData ranging from employment to housing have suggested the U.S. economy retained most of its momentum from the second quarter, when output expanded at a 3.7 percent annual pace.

Overall retail sales rose 0.2 percent last month as strong gains in auto sales were offset by a 1.8 percent drop in the value of sales at service stations as gasoline prices declined.

Receipts at auto dealerships rose 0.7 percent in August after rising 1.3 percent in July. There were sales increases for clothing stores, online retailers, restaurants and bars, sporting goods and hobby shops, and electronics and appliance outlets.

Receipts at building materials and garden equipment stores and furniture retailers fell despite a strengthening housing market.

The generally bright news on spending was tempered by the soft factory data. A separate report from the Fed showed manufacturing output fell 0.5 percent in August, hurt by a 6.4 percent drop in auto production, after increasing 0.9 percent in July.

Economists, however, cautioned against reading too much into the drop in motor vehicle and parts production last month because of the volatility tied to the annual summer plant shutdowns for retooling.

"As any automaker can tell you, the summer shutdowns are increasingly becoming a thing of the past as technology improves and the retooling process is either shorter or no longer tied exclusively to the summer months," said Tim Quinlan, an economist at Wells Fargo in Charlotte, North Carolina.

"The trouble is, the seasonal adjustment process does not yet know that."

Excluding autos, factory output was unchanged last month. Manufacturing, which accounts for about 12 percent of the economy, has been slammed by the headwinds of a strong dollar, slack economies oversees and lower oil prices.

A third report on Tuesday showed factory activity in New York state contracted in September for a second straight month.

(Reporting by Lucia Mutikani; Additional reporting by Dan Burns in New York and Jason Lange in Washington; Editing by Chizu Nomiyama and Paul Simao)