The latest ISM services report reveals an unexpected contraction in May, breaking a prolonged growth streak and raising concerns about the economic outlook.
ISM Services Report: First Contraction in a Decade
The Institute for Supply Management's (ISM) Services PMI dropped to 49.9 in May from 51.6 in April, marking the first contraction since December 2022. A reading below 50 indicates sector contraction, ending 10 consecutive months of expansion. This represents only the third contraction in 59 months since the pandemic recovery began in June 2020.
The May figure stands 4.4 percentage points below the 12-month average of 52.3, with October 2023's 55.8 being the peak and June 2023's 49.2 the lowest point during this period.
Sector Divergence: Winners and Losers
While the overall index showed contraction, performance varied significantly across industries:
Expanding Sectors (10 industries):
- Accommodation & Food Services
- Arts, Entertainment & Recreation
- Public Administration
- Mining
- Utilities
- Educational Services
- Real Estate, Rental & Leasing
- Information
- Health Care & Social Assistance
- Professional, Scientific & Technical Services
Contracting Sectors (8 industries):
- Other Services
- Retail Trade
- Management of Companies
- Agriculture, Forestry, Fishing & Hunting
- Finance & Insurance
- Construction
- Transportation & Warehousing
- Wholesale Trade
Key Subindex Analysis
The PMI components presented a mixed picture:
Business Activity: Flat at 50.0 (down 3.7 points), ending 59 months of growth. Twelve industries reported increased activity.
New Orders: Plunged to 46.4 (down 5.9 points), the first contraction since June 2023. Only six industries reported order growth.
Employment: Rose to 50.7 (up 1.7 points), recovering from April's contraction. Seven industries added jobs.
Supplier Deliveries: Increased to 52.5 (up 1.2 points), indicating slower deliveries in 11 industries.
Industry Voices: Tariffs and Uncertainty
Construction sector respondents reported: "Tariff changes have thrown residential building supply chains into chaos. Many products still originate in Southeast Asia, with suppliers testing price increases. Major HVAC manufacturers are passing through refrigerant and steel cost increases."
An IT professional noted: "Tariffs remain challenging as applicable rates remain unclear, leading many to postpone purchasing decisions."
Expert Perspective: Warning Signs Emerge
Steve Miller, Chair of ISM's Services Business Survey Committee, emphasized sector variations: "Currently 57% of GDP-representative industries are expanding, up from prior months. The shift to overall contraction stems from moderating growth in hospitality and real estate sectors."
Miller highlighted concerning trends: "The combined new orders and backlog average of 44.9 has only fallen below 45 during the pandemic's peak and the 2008-09 financial crisis." He warned that prolonged tariff uncertainty could recreate pandemic-era supply constraints and inflationary pressures.
Outlook: Navigating Challenges
The unexpected contraction raises concerns about:
- Ongoing trade policy disruptions
- Persistent inflationary pressures
- Softening demand signals
- Residual supply chain issues
Potential opportunities include:
- Technological innovation adoption
- Meeting evolving consumer demands
- Benefiting from supportive policies
The sector's recovery trajectory will depend on addressing these challenges while capitalizing on emerging opportunities in the evolving economic landscape.