U.S. manufacturing activity unexpectedly contracted in January, but consumer spending closed out last year on a strong note, giving conflicting signals on the direction of the economy.
The data was insufficient to revive expectations of an interest rate cut by the Federal Reserve in the first half of 2007 and was offset by reports showing a surprise jump in pending home sales in December.
The Institute for Supply Management said its index of national factory activity eased to 49.3 from 51.4 in December, below economists' median forecast for a slight rise to 51.9.
A reading below 50 indicates shrinkage and the index was last below this level in November when it recorded 49.9.
"The overall economy is weak and it's far too early to discount the possibility of rate cuts this year," said Richard Iley, an economist at BNP PARIBAS in New York.
"There are considerable downside risks to growth underlined by this survey today which is consistent with an economy growing below trend and which may still require a policy ease."
Stronger GDP Increase
The report came a day after data showed that in the fourth quarter of 2006, the economy grew at a faster pace than expected and inflation was tame.
Analysts reckon the ISM inventory index's drop to 39.9, the lowest since July-August 1984, is an indication that production could pick up later in the year.
"Inventories plunged, so I see a situation where they are not sufficient to meet demand. Production is going to have to pick up here in the next couple of months. This justifies the Fed's cautious embrace of the economic strength we've seen," Stephen Gallagher, chief U.S. economist at Societe General in New York.
Another report contributed to the mixed economic picture. Pending sales of existing U.S. homes advanced a stronger-than-expected 4.9% in December, the biggest monthly gain since 2004.
The Pending Home Sales Index, based on contracts signed in December, rose to 112.4 from 107.2 in November. But, for all of 2006, pending sales were down 4.4% from 2005.
This was not seen boding well for an interest rate cut in the first half of this year.
U.S. short-term interest rate futures suggested expectations the Fed would hold its benchmark federal funds rate target steady through mid-year, with greater chances it cut rates by the third or fourth quarter.
A government report released earlier showed U.S. incomes and spending rose as expected in December, while core consumer prices gained less than anticipated, suggesting inflation is contained.
Savings Rate Lower
But the U.S. saving rate for all of 2006, a negative 1%, was the lowest since a negative 1.5% rate in 1933, during the Great Depression.
Incomes rose 0.5% in December after a 0.3% gain in November while spending climbed 0.7% after a 0.5% rise in November, a Commerce Department report showed.
Core consumer prices, which exclude volatile energy and food costs, rose 0.1% in December after being unchanged in November. Analysts polled by Reuters were expecting a 0.2% rise.
Core prices rose 2.2% from December a year ago, the same pace as the 12-month rise in November. Officials at the Federal Reserve have said they prefer the 12-month rise in core prices to remain between 1% and 2%.
The saving rate slipped to a negative 1.2% in December, the lowest since August. The saving rate has been negative for 21 consecutive months, since April 2005.
The personal saving rate plumbed historic lows in 2006 as Americans increasingly tapped their home equity to support their spending during a five-year housing boom.
The number of U.S. workers applying for jobless benefits fell a much sharper-than-expected 20,000 last week, according to a separate report from the Labor Department, underscoring strength in the labor market.
However, a report from employment consulting firm Challenger, Gray & Christmas showed planned job cuts by companies in the United States rose 15 percent in January from December to 62,975.
But the planned layoffs, led by job cuts at telecommunications firms, were 39 percent lower than the 103,466 announced in January 2006.