US service sector growth picks up; input prices gauge highest in nearly two years

By Lucia Mutikani

WASHINGTON (Reuters) - U.S. services sector activity accelerated in December, but a surge in a measure of prices paid for inputs to near a two-year high pointed to elevated inflation, consistent with the Federal Reserve's projection for fewer interest rate cuts this year.

The Institute for Supply Management (ISM) said on Tuesday that its nonmanufacturing purchasing managers index (PMI) increased to 54.1 last month from 52.1 in November amid strong demand. Economists polled by Reuters had forecast the services PMI rising to 53.3.

A PMI reading above 50 indicates growth in the services sector, which accounts for more than two-thirds of the economy. The ISM views PMI readings above 49 over time as generally indicating an expansion of the overall economy.

The PMI added to so-called hard data, including consumer spending, that have suggested solid economic performance in the fourth quarter. The ISM said last week that its manufacturing PMI increased to a nine-month high in December.

Business sentiment has brightened in the aftermath of President-elect Donald Trump's election victory in November on hopes for tax cuts and a low regulatory environment. But there are concerns that other policy pledges from the incoming Trump administration, including higher tariffs on imported goods and mass deportations, could fan inflation and stifle growth.

The ISM survey's new orders measure increased to 54.2 last month from 53.7 in November. Its business activity index shot up to 58.2 from 53.7 in the prior month.

With demand rising, so did the cost of inputs. The survey's prices paid measure for services inputs jumped to 64.4, the highest reading since February 2023, from 58.2 in November.

Progress lowering inflation to the Fed's 2% target stalled for much of the second half of 2024 amid a resilient economy. The U.S. central bank last month delivered a third consecutive rate cut, reducing its benchmark overnight interest rate by 25 basis points to the 4.25%-4.50% range.

The Fed, however, projected only two reductions in borrowing costs this year compared to the four it had forecast in September, acknowledging the resilience of the jobs market and the economy in general. The Fed's policy rate was hiked by 5.25 percentage points in 2022 and 2023 to quell inflation.

The survey's measure of services employment was little changed at 51.4 in December. It has not been a good predictor of services payrolls in the government's closely watched employment report. Job growth likely moderated last month as the boost from the end of disruptions from hurricanes and strikes by factory workers at Boeing and another aerospace company faded.

Nonfarm payrolls likely increased by 154,000 jobs in December after surging by 227,000 in November, a Reuters survey showed. The unemployment rate is forecast unchanged at 4.2%.

(Reporting by Lucia Mutikani; Editing by Chizu Nomiyama)