(Adds market reaction)
*
High inflation projection boosts case for hike
*
Growth downgraded for this year and the next
By Francesco Canepa
FRANKFURT, Sept 13 (Reuters) - The European Central Bank expects euro zone inflation to remain above 3% next year, bolstering the case for a tenth straight interest rate increase this week, a source with direct knowledge of ratesetters' discussions told Reuters on Tuesday.
The ECB begins a two-day meeting on Wednesday, with persistently high inflation and rising recession fears pulling policymakers in opposing directions and, until Tuesday, keeping market expectations divided between a pause and another 25-basis-point hike.
But traders ramped up bets on an increase being announced on Thursday after the Reuters report, pushing up the euro and yields on government bonds .
The ECB's quarterly projections, set to be to presented to its Governing Council on Wednesday, will put inflation above 3% in 2024, the source said, against expectations for a small cut.
An ECB spokesman declined to comment.
The updated 2024 projection is well above the central bank's 2% target and will be higher than the 3% forecast in June. It is also above the 2.7% predicted in a Reuters poll of economists.
The source said the rate decision was still a close call and formal proposals for the meeting had not yet been presented.
But a 3%-plus inflation figure for 2024 adds to the case for a rate hike, as it appears to confirm fears that it could be harder to tame price pressures than policymakers earlier thought.
Money markets showed investors now assigned a 70% chance on a rate hike this week, compared to just 40% on Tuesday.
The ECB has lifted its deposit rate to 3.75% from minus 0.50 in 14 months, the fastest pace of tightening on record in the hope of stemming runaway price growth.
But both headline and underlying inflation remain above 5%, raising the risk that workers will start demanding bigger pay increases in what is an exceptionally tight labour market.
While the ECB's 2025 inflation forecast will see no fundamental change, this is not a major item in the debate for policymakers because of the poor accuracy of projections in recent years.
Growth on the other hand will be downgraded for this year and 2024, roughly in line with market expectations, the source said.
Economists polled by Reuters see euro zone growth at 0.6% this year and 0.9% in 2024. (Writing by Balazs Koranyi; Editing by Paul Simao and John Stonestreet)