By Lucia Mutikani

WASHINGTON (Reuters) – U.S. services industry growth slowed further in March, while a measure of prices paid by businesses for inputs dropped to a four-year low, which bodes well for the inflation outlook.

The moderation in inflation is, however, likely to be gradual as other data on Wednesday suggested companies were willing to offer workers switching jobs large wage increases in March. Though labor market conditions are easing, skilled workers remain in short supply in industries like construction.

“This is a sign that services inflation should continue to fade in coming months, a welcome sign for the Federal Reserve after hotter price readings to start 2024,” said Ben Ayers, senior economist at Nationwide in Columbus, Ohio. “Still, with labor conditions strong, the first rate cut may be delayed until the second half of 2024.”

The Institute for Supply Management said its non-manufacturing PMI fell to 51.4 last month from 52.6 in February. It was the second straight monthly decline in the index since rebounding in January. A reading above 50 indicates growth in the services industry, which accounts for more than two-thirds of the economy. Economists polled by Reuters had forecast the index edging up to 52.7 in March.

The PMI remains consistent with an economy that continues to expand, though at a moderate pace.

Growth is slowing following 525 basis points worth of interest rate hikes from the Federal Reserve since March 2022. The U.S. central bank is expected to start cutting rates this year, but the timing will depend on how inflation behaves.

Services are the main driver of inflation, via higher wages.

Twelve services industries reporting growth last month included accommodation and food services as well as utilities, retail trade and professional, scientific and technical services. Mining, transportation and warehousing were among the four industries reporting a contraction.

Businesses in the construction sector said “conditions remain strong in the industrial construction market,” adding that “labor is still tight across the country for skilled trades positions.” Healthcare and social assistance providers reported “continued inflationary pressure across multiple clinical device categories as contracts expire or are renewed.”

Businesses in the agriculture, forestry, fishing and hunting sector said “our market is shaping up to be the first normal year since the start of COVID-19.” Utilities providers reported that “lead times and supply are improving, but several strategic items remain difficult to procure.”

The survey’s measure of new orders received by services businesses slipped to 54.4 last month from 56.1 in February. Production remained strong, with a gauge of business activity edging up to 57.4 from 57.2 in the prior month.

Stocks on Wall Street were trading higher. The dollar fell against a basket of currencies. U.S. Treasury prices were lower.

SUPPLY IMPROVING

With demand slowing, so did services inflation. The survey’s measure of prices paid for inputs by businesses dropped to 53.4, the lowest reading since March 2020, from 58.6 in February. Data last week showed services inflation excluding energy and housing cooling considerably in February after accelerating in January.

Nonetheless, business continued to worry about inflation.

“This implies that core services ex-housing inflation, aka supercore, will resume falling back toward its pre-pandemic normal rate,” said Stephen Brown, deputy chief North America economist at Capital Economics.

Supply of inputs to services business improved further last month. The supplier deliveries measure declined to 45.4 from 48.9 in February. A reading below 50 indicates faster deliveries. This contributed to the decline in the services PMI.

The survey’s measure of services sector employment ticked up to 48.5 from 48.0 in February. Comments from businesses in the survey included “attrition and slow backfill approval processes” and “still working through year-end retirements and positions still not filled.”

This measure has not been a good predictor of services payrolls in the government’s closely watched employment report.

Government data on Tuesday showed there were 1.36 job openings for every unemployed person in February compared to 1.43 in January. With the labor market still tight, employers continue to seek opportunities to boost their wages.

The ADP National Employment Report on Wednesday showed the median wage for workers switching jobs jumped 10% on a year-on-year basis on March after increasing 7.6% in February. Wages for workers staying in their jobs rose 5.1% after a similar gain in February. Private payrolls increased by 184,000 jobs in March month after advancing 155,000 in February.

“If this picture is sustained into April, it suggests that the internals of the labor market are pointing to a willingness of companies to pay up for new hires,” said Conrad DeQuadros, senior economist advisor at Brean Capital in New York.

March’s employment report on Friday is likely to show that nonfarm payrolls increased by 200,000 jobs in March after rising by 275,000 in February, according to a Reuters survey. The unemployment rate is forecast unchanged at 3.9%, and annual wage growth cooling to 4.1% from 4.3% in February.

(Reporting by Lucia Mutikani; Editing by Chizu Nomiyama and Andrea Ricci)

---