Service sector strengthens

The December ISM service sector report was a good deal stronger than expected. This chart above shows the Business Activity Index, which has surged in recent months after some very disappointing numbers in the third quarter (a period we now know was an economic "soft patch"). Both this and the Service Sector Composite Index are now higher than they have been at any time since 2005-6, in a very clear sign of strength. The service sector has been lagging the strength of the manufacturing sector for most of this recovery, but now we see that it is catching up. This is very good news.

The prices paid component of the NAPM indices show that fully 70% of those surveyed report paying higher prices. The CPI may be registering very low inflation, but in the real world there is something else afoot, and it's not deflation.

The economic strength and the inflation pressures displayed in the ISM indices do not jibe at all with the FOMC's recent assessment of the economy (i.e., it still needed help from QE2). Bureaucrats are usually late to the party, so that is not too surprising. But the Fed can't and shouldn't ignore these numbers for much longer.