Service-sector activity contracted in May for the first time since June 2024, confirming our expectations ahead of the Institute for Supply Management’s report on Wednesday. We were one of only two forecasters anticipating a decline, and the reason was clear: tariffs.
Long seen as shielded from trade-related headwinds, the service sector is now feeling the tariffs’ impact. The top-line index fell to 49.9 in May from 51.6 in April; any figure below 50 indicates a contraction.
Businesses cited rising input costs and heightened uncertainty as challenges. The prices-paid index climbed to its highest level since 2022, signaling mounting inflation pressure.
Despite the softening backdrop, employment held steady. The hiring index rose marginally in May, following two straight months of decline, suggesting that firms are cautious but not yet cutting staff broadly.
The report strengthens the case for the Federal Reserve to keep interest rates on hold, as signs of stagflation—slowing growth paired with elevated prices—become more visible.
Still, the ISM services gauge is based on sentiment rather than hard economic data. The gap between these so-called soft indicators and official output or employment figures remains a critical uncertainty.
That divergence may not last. Whether the data catches up in May, June or beyond, we expect tariffs and their ripple effects to remain a persistent drag on economic activity, hiring and inflation through the remainder of the year.
Read more of RSM’s insights on the economy and the middle market.
