ISM services confirming recovery kicking into high gear

The ISM survey of the service sector, which takes the temperature of the broad-based service sector, shows that economic activity in the economy continues to heat up.

The Institute for Supply Management reported this morning that the ISM Non-Manufacturing Index increased from 59.4 in January to 54.9 in February, the 15th straight month of growth and the sixth straight month that the measure of activity in the service sector accelerated.

A reading of 50 is an indication that the service sector is neither expanding nor contracting.



Adding to the positive tone of today’s report, the Business Activity component of the index increased 2.3 points to 66.9, the best reading in seven years, while new orders, a proxy for future activity, fell 0.5 points to 64.4 but the robust level is still suggesting strong gains in the economy.

In the meantime, employment continued in its upward trend, rising 1.1 points to 55.6, the highest level in five years.

Nonfarm payroll growth has lagged, according to the monthly report issued by the government, but weekly jobless claims are falling and ADP’s survey continues to suggest the job market is slowly improving.

Pricing concerns
With growth picking up and input costs rising, the prices paid component inched up from 72.1 to an uncomfortable 73.3, hinting that firms are starting to feel some pressure from higher input costs.

The Fed acknowledged yesterday in its Beige Book that companies are beginning to pass along higher raw material costs, but the largest expense for most businesses – wages – has been holding steady.

Don’t expect the Fed to react to anecdotal reports as it is likely to wait for hard evidence that inflation is rising before taking action.  In addition, core inflation is at 1%, so even a gradual increase toward its goal of getting inflation closer to 2% is probably not enough to prompt action.

Even then, it will want to see a significant jump in job creation before shifting away from its focus on unemployment and taking aim at prices.

At last growth kicking into high gear
We are not seeing much action on the job front per government data, at least not yet, but the chart below, which looks at the ISM’s reports on manufacturing and services are indicating that the economic recovery has gained a significant amount of traction in recent months.

And today’s report that jobless claims fell to the lowest in almost three years is among the clearest signs yet that the recovery is ramping up.



With job creation and economic activity closely tied together, is seems likely that nonfarm payrolls will soon be reflecting the sizable improvement we are seeing in economic growth.