WRAPUP 3-U.S. Payroll Jobs Up, Jobless Rate Falls to near 3-yr low

(Adds details, market reaction)

* Nonfarm employment up 200,000 in December

* Private-sector payrolls up 212,000; govt down 12,000

* Unemployment rate falls to 8.5 pct from 8.7 pct

* Data confirms strengthening in U.S. recovery

By Lucia Mutikani

WASHINGTON, Jan 6 (Reuters) - U.S. employment grew solidly last month and the jobless rate dropped to a near three-year low of 8.5 percent, offering the strongest evidence yet of an acceleration in economic activity.

Nonfarm payrolls increased 200,000 last month, the Labor Department said on Friday, the most in three months and way above economists' expectations for a 150,000 gain.

The economy needs to sustain the current pace of job creation to signal a robust recovery is finally under way.

The unemployment rate dropped from a revised 8.7 percent in November, which was previously reported as 8.6 percent. The jobless rate is now the lowest since February 2009.

"This highlights that the U.S. economy is on its way to recovery even as strains in Europe persist," said David Watt, senior currency strategist at RBC Capital in Toronto.

U.S. stocks index futures extended gains on the data, while prices for Treasury debt fell. The dollar rose against the euro.

Signs the labor market is gaining traction could offer some comfort for the Obama administration, whose economic policies are constantly attacked by the Republicans.

The state of the labor market could determine whether President Barack Obama gets re-elected in November.

The report cemented views that growth in the fourth quarter accelerated after a tepid performance in the first 9 months of the year.

A string of better-than-expected U.S. economic indicators in recent weeks has highlighted a contrast between the recovery in the world's biggest economy and Europe, which is already widely believed to be in recession and probably faces worse to come.

Though the payrolls count for October and November was revised to show 8,000 fewer jobs created than previously reported, there is no denying the labor market is recovering.

The separate household survey, from which the jobless rate is derived, showed gains in employment and a modest decline in the labor force, helping to lower the jobless rate.

A broad measure of unemployment, which includes people who want to work but have stopped looking and those working only part time but who want more work, dropped to an almost three-year low of 15.2 percent from 15.6 percent in November.

Still, the economy needs even faster pace of job growth over a sustained period to make a noticeable dent in the pool of the 23.7 million Americans who remain either out of work or underemployed since the end of the 2007-09 recession.

With the labor market still far from healthy, the debt crisis in Europe unresolved and tensions over Iran threatening to drive up oil prices, the U.S. economy faces stiff headwinds.

Economists predict the recovery will lose a step early this year after expanding in the fourth quarter at what is expected to be the fastest pace in 1-1/2 years.

This should keep alive the possibility of the Federal Reserve embarking on a third round of asset purchases, or quantitative easing, to spur stronger growth.

GOVERNMENT A DRAG

All the job gains in December came from the private sector, where payrolls rose 212,000 - the most in three months. Government employment contracted 12,000.

For all of 2011, the private sector added 1.9 million jobs, while government employment fell 280,000.

A measure of the share of industries that showed job gains during the month rebounded after falling sharply in November.

There were job gains in construction, where unseasonably mild weather has boosted groundbreaking for new homes. Construction payrolls increased 17,000 after falling 12,000 in November.

Transportation and warehousing also got a boost from the mild temperatures, with employment jumping 50,200.

The bulk of the transportation increase came from the courier and messenger industry, which rose 42,000, probably reflecting gains from online purchases during the holiday season.

Manufacturing jobs rose 23,000, the largest gain since July. Factory employment rose 225,000 last year.

Retail employment rose 27,900 after hefty gains in November as retailers geared for a busy holiday shopping season.

Healthcare and social assistance increased 28,7000 after rising 20,200 in November. But temporary hiring - seen as a harbinger of future hiring - fell 7,500 in December after gaining 11,200.

Even though employment picked up last month, hourly earnings rose a modest four cents, indicating that most of the jobs being created are low paying. The high unemployment rate also means wages cannot grow much.

This is a potentially troubling sign for consumer spending, which has been largely supported by a reduction in savings.

The average workweek rose to 34.4 hours from 34.3 hours in November. (Editing by Neil Stempleman)