Data released by the Institute for Supply Management (ISM) on Thursday showed the U.S. service sector expanded at a faster pace in August. The headline ISM services PMI rose to 55.4 from July's 54.1, marking the 26th consecutive month of expansion. Both the business activity and new orders indexes climbed to multi-year highs, indicating robust demand persists across the American service economy. However, the employment index contracted for a second straight month while the prices index advanced to 72.6, its highest level since August 2022, underscoring the delicate balance between economic resilience and renewed inflationary pressures.

The August services PMI came in at 55.4, climbing 1.3 percentage points from the prior month and finishing 1.7 points above the trailing 12-month average of 53.7. Notably, momentum in the service sector has strengthened noticeably. The business activity index surged to 61.7 from 59.1, marking the strongest reading since November 2022, while the new orders index rose to 60.9 from 57.2, reaching a level not seen since February 2023. Backlogs of unfinished work expanded sharply as well, with the order backlog index jumping 4.7 points to 55.6 in August. This marks the seventh straight month of expansion and the highest reading since February 2026. External demand also improved, as the new export orders index advanced from 52 to 56.3, holding at 50 or above for the seventh consecutive month, while the imports index climbed to 56.3 from 51.8, expanding for a second straight month. The inventories index rose substantially from 51.4 to 56.7, a gain of 5.3 percentage points, and the inventory sentiment index increased to 54.1, staying in expansion territory for the 40th consecutive month.

Looking at industry breakdowns, 12 service industries reported growth in August while five contracted. The fastest-growing sectors included mining, real estate and leasing, accommodation and food services, wholesale trade, and arts, entertainment and recreation. Meanwhile, industries such as construction, finance and insurance, and healthcare and social assistance experienced contraction. ISM noted that typical summer seasonal demand provided meaningful support, with accommodation and food services alongside arts, entertainment and recreation ranking among the five fastest-growing industries for the month.

The price pressures drawing the most attention were the acceleration in inflation indicators. The ISM services prices index moved up to 72.6 in August from 70.3, the highest reading since August 2022. This marks the fifth time in the past six months that the index has broken above 70, and it has now remained above 60 for 21 consecutive months. The 12-month average climbed further to 68.5, its highest level since April 2023. The breadth of commodity price increases also expanded markedly. In July, survey respondents had reported six commodities experiencing price declines, but by August only fuel remained on the declining-price list — and fuel was simultaneously cited by some firms as a rising-cost item for the seventh consecutive month. Petroleum-based products, diesel, and gasoline again appeared on the list of commodities with rising prices in August.

The impact of Middle East conflicts on energy costs has begun transmitting to business operating expenses. One educational services firm indicated that the Iran conflict and tight oil supplies pushed up its fuel procurement costs. Wholesale trade companies reported that raw material prices for copper, aluminum, and PVC continued to climb on a weekly basis, with geopolitical factors such as tariffs also adding upward pressure. At the same time, graphics processing units (GPUs) and steel were added to the supply-shortage list for the first time, while a retail industry firm reported that memory shortages were worsening, leaving inventory of devices requiring storage cards low while prices remained elevated.

In a sharp contrast to the robust activity gauges, service-sector employment remained weak. The employment index came in at 47.8 for August, a modest 0.4-point improvement from July's 47.4 but still below the neutral 50 threshold, indicating contraction in services employment for the second consecutive month. The gauge also sits below its 12-month average of 48.8 and has registered below 50 in 13 of the past 18 months. That said, glimpses of improvement are emerging in the labor picture. ISM reported that the share of companies cutting staff declined to 17.1% in August from 19% in July. Meanwhile, activity and new orders indexes have reached multi-year highs while order backlogs have accumulated — some businesses even noted that backlogs grew precisely because staffing levels were insufficient. ISM believes that if demand maintains its current momentum, service-sector firms will likely need to step up hiring in the months ahead.

Tariffs and Middle East conflicts resurfaced as the most frequently cited supply chain concerns among August respondents. Accommodation and food services firms said the overall business environment remains positive, but shifting U.S. government policies — including tariffs and Middle East conflicts — are imposing sustained input-cost pressure on companies and their suppliers. Professional, scientific, and technical services firms noted that the combination of Section 301 tariffs and new forced-labor-related tariffs continues to keep landed costs for imported goods elevated. Some businesses are mitigating risk by seeking second-source suppliers and evaluating nearshoring options, but for certain specialty materials and components, qualified capacity, lead times, and product quality remain constrained. The result is that companies must maintain higher safety stock, extend procurement planning cycles, and accept squeezed profit margins, as only a portion of the additional costs can be passed through to customers. The supplier deliveries index slipped to 51.3 in August from 52.8, remaining in expansion territory for the 21st consecutive month. Since readings above 50 signal slowing delivery speeds, the data indicate vendor deliveries remain sluggish — though the index has now declined for four straight months, suggesting supply chain delays are gradually easing.

High interest rates are still pressuring rate-sensitive sectors of the economy, with the construction industry bearing some of the brunt. Construction respondents reported that bond market volatility pushed the 30-year mortgage rate to 6.67%, further weakening housing affordability and driving potential buyers back to the sidelines. With the traditional home-selling season winding down and the new school year beginning, new-home construction continues to moderate. Companies indicated that subsidizing mortgage rates for buyers and offering price discounts — once promotional tools used to attract incremental traffic — have increasingly become standard practice in the new-home market. The finance and insurance sector remains cautious as well. Survey respondents reported that rising healthcare costs, greater regulatory complexity, and reimbursement pressures are making health insurers more focused on cost containment, supplier performance, operational efficiency, and risk management, with large purchases and strategic investments now subject to more rigorous scrutiny.