* Headline inflation near double digits
* Rise beats expectations, strengthens case for rate hike
* Benchmark bond yield matches 17-month high (Adds details, quotes, market moves, background)
By Abhijit Neogy and Matthias Williams
NEW DELHI, March 15 (Reuters) - India's headline inflation topped expectations and came within touching distance of double digits in February, making a rate increase by the central bank all but inevitable at its scheduled April policy review.
Annual wholesale price inflation accelerated to 9.89 percent in February, the highest since October 2008 and well above the Reserve Bank of India's end-March projection of 8.5 percent and the 8.56 percent January reading.
The inflation data comes on the heels of a 16.7 percent annual jump in industrial output in January, with the unexpectedly strong economic pickup also backing the case for the central bank to raise policy rates by at least 25 basis points.
"This seals the case for rate hike so we expect both reserve ratio and interest rate hike on or before April policy meeting," said Ramya Suryanarayanan, an economist with DBS in Singapore.
A Reuters poll had estimated headline inflation in February to be 9.62 percent, and markets were little moved.
While government officials spoke out against raising rates ahead of the past two quarterly Reserve Bank of India meetings for fear of choking off recovery, they have less case for making a similar argument next month as inflation surges and growth broadens.
"It is worrying that inflation always turns out higher than expected, and the fact that there is a huge backward revision is also not good," Suryanarayanan said.
The December figure was revised to 8.1 percent from 7.3 percent.
The partially convertible rupee was little changed at 45.56/57, while the 30-share BSE index was flat.
The 10-year bond yield edged up 1 basis point to 8.02 percent, matching a 17-month high touched last week. It had closed at 8.01 percent in the previous session.
BORROWING BLUES
Rising inflation and the government's plan to borrow a record $100 billion in the fiscal year that starts April 1, most of which is expected in the first half, have weighed on bond prices.
The borrowing plan complicates the central bank's job as raising rates aggressively would also push up New Delhi's borrowing costs.
"The underlying inflation pressures are intensifying as capacity utilisation is reaching the previous high of 2007. More companies are reporting labour shortages and rising wage cost," said Robert Prior-Wandesforde, senior Asian economist at HSBC in Singapore.
"I think RBI is well behind the curve in tightening policy. Realistically, the huge government borrowing limits their scale of action," he said, adding that inflation should moderate after March thanks to an expected fall in commodity and food prices.
Rising prices have sparked opposition-backed street protests and made India's government reluctant to push through reforms such as relaxing fuel and farm price controls, even though the ruling Congress party faces no risk of losing power anytime soon.
HANDS-OFF UNTIL APRIL?
Despite the strong inflation and industrial output numbers, most analysts expect the central bank wait with any action for its policy review next month.
Most economists polled last week by Reuters expected the central bank to raise rates on April 20, although they were divided over whether it would be a 25 or 50 basis point rise.
More than half of those polled also expected a further rise in the cash reserve ratio for banks after its 75 basis point increase in January.
India would be only the second Group of 20 country, after Australia, to raise interest rates as the global economy recovers from the financial crisis.
The high inflation was mainly due to the continued rise in food prices, which climbed 17.8 percent from a year earlier in February and central bank deputy governor Shyamala Gopinath said price growth should moderate over time.
"There could be some demand side pressures reflected in inflation for manufacturing. We do think that it should reduce, we are reviewing all our parameters and indicators for the April policy," she told Bloomberg-UTV television on Monday.
Inflation in manufacturing accelerated to 7.42 percent in February from 6.55 percent in January, indicating that inflation has now spilt over to the broader economy.
"A greater pick-up in manufacturing inflation is going to be a source of concern going forward. Overall, inflation is expected to remain at elevated levels till September," said Vivek Kumar, economist with ICICI Bank in Mumbai. (Writing by Tony Munroe; Editing by Alistair Scrutton and Tomasz Janowski)