Service Sector Data Adds to Inflation Anxiety

NYT, July 4, 2008
REUTERS

The United States service sector shrank unexpectedly in June, according to a closely watched survey released on Thursday, while inflation pressures soared to a record high for the survey’s 11-year history.

The Institute for Supply Management’s measure of employment in the vital service sector hit a record low, which could fan fears of a return to low growth and high inflation, known as stagflation, that was last seen in the late 1970s and early 1980s.

The data also points up the quandary facing the Federal Reserve, which cut benchmark interest rates to support the weak economy at the risk of adding to price pressures. It is now expected to keep rates steady while waiting to see if inflation becomes a bigger problem.

The institute’s nonmanufacturing index was down to 48.2 for June, from 51.7 in May. A reading below 50 signals contraction.

“The nonmanufacturing results were decisively weak in a survey that typically does not show decisive movements,” said Pierre Ellis, senior economist at Decision Economics in New York.

Economists had expected a reading of 51.0, according to the median of 76 forecasts in a poll by Reuters.

The service sector represents about 80 percent of American economic activity, including businesses like banks, airlines, hotels and restaurants.

On Tuesday, the institute released results of another survey that showed manufacturing expanded in June for the first time in five months, helped by a weak dollar. That report also showed that inflation pressures soared to their highest since the stagflation-ravaged 1970s.

If there was any good news for the Fed, it was the suggestion that price rises in the service sector were not being passed on to consumers completely.

“Yes, prices are higher, but it’s not a total pass-through to the end consumer,” said Anthony S. Nieves, chairman of the institute’s nonmanufacturing business survey committee. “It’s more about eroding profit margins.”