The US services sector grew steadily in February, with new orders and employment rising to more than a year high, suggesting that the economy continued to grow in the first quarter.
The Institute for Supply Management (ISM) survey on Friday described companies as “mostly positive about business conditions”. The research contributed to robust consumer spending and the labor market by suggesting that the economy was nowhere near a recession. But the resilience of the economy should allow the Federal Reserve to continue raising rates into the middle of the year.
“Activity isn’t slowing down much and that’s keeping prices and margins under pressure,” said Tim Quinlan, a senior economist at Wells Fargo in Charlotte, North Carolina. “The fact that this is happening alongside an uptick in hiring gives the Fed the green light for further rate hikes.”
The ISM’s non-manufacturing PMI fell to 55.1 from 55.2 in January. A reading above 50 indicates growth in the services sector, which accounts for more than two-thirds of the economy. The PMI is well above the level of 49.9, which according to the ISM points to growth in the economy as a whole over time. Economists polled by Reuters had forecast the nonmanufacturing PMI to fall to 54.5.
Thirteen service industries, including construction, retail, hospitality and hospitality, as well as professional, scientific and technical services, reported growth last month. Wholesale and information were among the four that reported a contraction.
Comment from companies was mixed. Lodging and hospitality companies viewed sales activity as “generally strong, despite economic headwinds”. Professional, scientific and technical services companies said they “started the new business cycle with a noticeable increase in demand”.
While companies that manage businesses and provide support services reported activity slowing, they did not see a “collapse like in 2009”. Companies in the information sector said it was becoming “more difficult to reduce costs”, adding that they had to “reduce headcount more aggressively to achieve margins”.
Overall, the services sector is benefiting from a shift in consumer spending on goods, which are typically purchased on credit. The ISM said on Wednesday that the manufacturing PMI contracted for a fourth consecutive month in February.
The ISM survey’s gauge of new orders received by service companies rose to 62.6 from 60.4 in January last month, the highest level since November 2021.
According to the ISM, comments from companies ranged from “increased requests for service and components” to “customers starting to warm up to the spring season.”
US equities traded higher. The dollar slid against a basket of currencies. US Treasury bond prices rose.
Supply significantly improved
The services sector is now at the center of the fight against inflation, as service prices tend to be stickier and less responsive to interest rate hikes.
With the labor market still tight and inflation stubbornly high, the Fed is more likely to raise rates at least three more times this year, rather than twice.
The U.S. central bank has raised its policy rate by 450 basis points since last March from near-zero levels to the current range of 4.5 percent to 4.75 percent, with the bulk of the hikes taking place between May and December.
A measure of the prices the service sectors paid for inputs fell from 67.8 in January to 65.6, the lowest in two years. Some economists have considered the ISM meter for services paid as a good predictor of personal consumption expenditure (PCE) inflation. The Fed, which has an inflation target of 2 percent, tracks PCE price indices for monetary policy. Sixteen service companies reported an increase in prices paid last month. Only accommodation services and the hospitality industry reported a decrease.
Prices remained high despite a significant improvement in supply chains. The survey measure for deliveries by service industry suppliers fell to 47.6, indicating the fastest delivery performance since June 2009, from 50.0 in January. A value below 50 indicates faster deliveries.
“Robust demand for services could hold inflation, putting more pressure on the Fed to continue with rate hikes,” said Priscilla Thiagamoorthy, senior economist at Toronto-based BMO Capital Markets.
Hiring increased last month, with the measurement of service sector employment in the survey rising to 54. That was the highest reading since December 2021 and was up from January’s 50. Anthony Nieves, chair of the ISM Services Business Survey Committee, described the employment picture as “improving for some industries”, but also noted that “several industries reported continued contraction”.